As witnessed in Japan, protracted and large-scale balance sheet adjustments can weaken economic activity over a protracted period of time. Repairing the financial sector was an important element in improving the Japanese economy. The lesson for the euro area appears to be clear: the overhaul of the financial architecture – including the establishment of a procedure for resolving failing banks – needs to be accomplished in its entirety; selective mending will not be enough. In my view, we should make use of the momentum offered by the crisis to turn these challenges into opportunities – opportunities to put our economies on a sounder footing. To underscore why I think that we need to address today’s challenges in a comprehensive manner and why institutions are crucial in achieving this, I will first briefly review the build-up and adjustment of financial imbalances both in Japan and in Europe. Then I will elaborate on how to manage the deleveraging process and the institutional changes to be implemented, before touching upon the role monetary policy has to play. Imbalances in Japan and the euro area The Japanese experience provides important lessons as it demonstrates the difficulties of emerging from a “balance sheet recession”.1 With the euro area still battling the impact of the financial crisis, an important question is: how does the current euro area economy compare with the dynamics in Japan during the 1990s?2  1  Termed by Richard Koo in Koo, R., The Holy Grail of Macroeconomics: Lessons from Japan’s Great Recession, Wiley, 2009.

All the afore-mentioned factors have led to a sluggish labour market and elevated pressures on public finances. They have also increased vulnerabilities to many businesses and the non-performing loans in the banking system. In Bank of Albania’s opinion, this situation requires pursuit of stimulating macroeconomic policies. Economic theory and practice suggest that the maintenance of macroeconomic balances is a prerequisite to pursue these policies. I have reiterated that these balances do exist in the Albanian economy. They constitute a strong point for its future outlook. Inflationary pressures remain weak, external balances of the economy are improving and the Albanian financial system is healthy. But the macroeconomic balances should be maintained and further strengthened in the future. This objective is a preliminary filter and every macroeconomic incentive should pass through it. Every macroeconomic stimulus should also consider another vital equilibrium: that of financial stability in the country, otherwise it is at risk of becoming unproductive. The global crisis has significantly elevated a country’s exposure to risks related to financial stability. Therefore, this equilibrium should remain a constant priority and in concert with stimulating development policies. The healthier we are financially, the broader the spaces available to stimulate the development of the country. Having said the above and availing myself of the presence of the three main stakeholders responsible for designing and implementing the macroeconomic policies, let me now share with you Bank of Albania’s opinion about promoting the country’s development in the short term.