inflation, the public can see and interpret both what the central bank aims to do and what it actually accomplishes. inflation expectations are important in exchange markets. canada has chosen to operate in a flexible exchange rate regime mainly because of the asymmetric shocks that it faces relative to the united states, its major trading partner. it is thus extremely important that canada have a credible anchor for its monetary policy. the inflation target has played this role admirably. shocks to the exchange rate have not threatened domestic monetary stability. credibility and the real economy greater stability on the inflation front was also associated with fundamental changes in the real economy in the 1990s. the average duration of union wage contracts and financial contracts lengthened markedly. new types of long - term financial contracts were created. and there were fewer work disruptions. while other factors also played a part in these changes, low and stable inflation was an important contributing factor. the real economy also became more stable. both the output gap and the unemployment rate have been less volatile over the past decade of successful inflation targeting than in the preceding 10 years. and in the last two years the unemployment rate has been at its lowest level in 25 years. how is it that the variability of both inflation and output has fallen? i believe there are two main reasons. first, the increased credibility of monetary policy has led to a more stable behaviour of the economy, as i have alluded to above. second, policy itself has been improved by the forward - looking framework of inflation targeting, which has allowed canada to avoid the major boom and bust cycles experienced in the period from the late 1960s to the early 1990s by reacting promptly to new information. in particular, when there are demand shocks, the inflation - targeting framework acts as an automatic stabilizer for the economy. for example, a negative shock to demand leads to interest rates being lower than they otherwise would have been. this has the effect of moving output back towards potential output and inflation back to its target midpoint. in this regard, it is important to note the role of perrier and amano ( 2000 ) discuss the credibility of canadian monetary policy. kichian ( 2001 ) provides evidence on this point. see bank of canada ( 2000 ). see jenkins and o'reilly ( 2001 ). symmetric responses to positive and negative shocks, facilitated by the emphasis on the target midpoint. in response to supply shocks, which take the form of inflation being higher than expected for a given level of demand, the focus on

independent authority using an appropriate instrument were to make the stabilisation policy decisions. in the short - term, a politically more plausible alternative is to establish an independent body with the responsibility of enhancing transparency by conducting independent forecasts of the country ’ s deficits and providing recommendations on a regular basis. this is a part of improved governance, as discussed earlier. an institution building its authority on impartiality and expertise might well contribute to putting some much needed pressure on governments with lax fiscal policies. here, transparency is a vehicle for accountability and political pressure. public and political acceptance will be more likely if voters are not only given the possibility, but being helped, to form an opinion and to express it in general elections. summing up perhaps somewhat counterintuitive but in line with today ’ s seminar topic, i would like to end this speech by questioning its underlying assumption. is it necessarily a problem having to give up national monetary policy when joining a monetary union? the assumption presupposes that what is to be stabilised is mainly driven by factors that can be affected by national policy instruments. is this really the case? a recent cross - country study suggests that determinants of inflation have become less “ country - centric ” and increasingly “ globe - centric ” ( borio and filardo, 2006 ). of course, national stabilization policy still plays an important role, but global factors are becoming increasingly important. at the same time, business cycles in the g7 countries seem to have become increasingly synchronised, thereby narrowing the difference between domestic and global determinants of inflation. 7 as integration increases and differences diminish, monetary unions will have a greater chance of success. this chance will increase further if countries prepare their economies from a stabilizing as well as a structural perspective. institutionally, frameworks for monetary and fiscal policy, at country and union level alike, should strive for consistency, commitment, transparency and accountability, coupled with independence of policy makers. most importantly, the aim should be long - term stabilization rather than short - term fine - tuning. against this back - drop, it is my belief that the advantages of a monetary union outweigh the disadvantages. obviously, a non - negligible part of the future environment for central banks hinges upon these developments. as time goes by, they will provide us with guidance as to which of the two corner solutions for exchange rate policy will prove the most popular – a freely floating currency