mojmir hampl : states as debtors speech by mr mojmir hampl, vice governor of the czech national bank, to the alpbach financial market symposium, alpbach, austria, 2 september 2011. * * * i would like to thank the organizers for inviting me to this wonderful and amazing place. and that is not a platitude ; i really mean it. it is my first time here in alpbach, and i can only hope that it is not the last after i finish my presentation. concerning the sovereign debt crisis, we are describing it as something absolutely fatal. but from a bird ’ s eye view – as was said by several speakers yesterday – sovereign debt problems and overindebtedness of nation states are nothing new. europe as a continent has a rich experience with such problems. the czechs share a long part of their history with austria, so many might remember from their textbooks the sovereign instabilities and crises of the 19th and 20th centuries, for instance the well - known crash of state finances in 1811, in the middle of the wars against napoleon. that crash was followed by a drastic monetary reform, default of the austrian empire and a search for a better way. this time is different, however, at least in the following respects : 1. we forgot that this can happen, that sovereigns can become perfectly insolvent just like any other debtor, and states behaved accordingly. 2. this is the first time in 60 years or so that a sovereign crisis has hit the developed world, the rich world, not the developing one, the hardest. to demonstrate that : almost 80 % of all the imf ’ s rescue loans have gone to europe! over 40 % have gone to the eurozone itself, and the share is going to rise. the developed world is not accustomed to this. 3. this time the problem of sovereign debt has appeared at a time of peace and prosperity. 4. moreover, the eurozone – a monetary union without a state – is a completely new, unprecedented arrangement. typically, the solution to such a crisis used to be : inflation, default or monetary reform, very often accompanied by currency devaluation, or a combination of all these. please note that typically when the imf organizes a programme for a developing country, it requires a partial default or devaluation to disburse funds. nothing like that is possible within the eurozone – monetary solutions are unavailable for the weak

of course, future economic shocks. consequently, the surrounding uncertainty can also be divided into similar parts. let me first shortly address the last point, something we can call the “ shocks ” uncertainty. it is necessary to admit that both today ’ s central bank forecast and today ’ s central bankers ’ decision are deterministic from this point of view. this means that no shock that the economy will face in the future is incorporated into both the forecast and the decision. in other words, there is no way of avoiding the last - mentioned uncertainty connected with future shocks and neither the central bank nor the markets have any superior information about them. the uncertainty surrounding the first two mentioned points – the current state of the economy and future monetary policy – will be the heart of my remarks tonight. being forecasters we all face uncertainty surrounding the knowledge about the current state of the economy. this current state should be thought of as a shortcut to all the inflationary determinants brought from the past, but due to the transmission lags having an impact on future developments. every forecaster, and of course also the central bank, has his own opinion about the economy ’ s current state. one question arises immediately : should the central bank look at market forecasts and use them as a source of information about the economy ’ s current state and for its decision - making? my answer is : market forecasts should not be neglected. on the other hand they cannot be the core for decision - making and the central bank must rely primarily on its own structural modelling. this implies that despite all the transparency and communication, the central bank will – from time to time – have to surprise other forecasters and the market. let me now briefly explain why this is the case. in their article “ inflation forecasts and monetary policy ”, ben bernanke and michael woodford discuss the case of the central bank fully relying on market forecasts for its decision - making. they conclude that relying only on the market inflation forecast the central bank cannot perfectly stabilise inflation on the target. in the economist ’ s technical jargon, it can be shown that the rational expectations equilibrium under such circumstances does not exist. although such a statement looks suspicious, there is quite a simple intuition behind it. let ’ s assume that the central bank can infer the current state of the economy only from the market forecasts. then, following the market forecasts, the central bank will clearly settle monetary policy in order to achieve its target