andras simor : on the road to the euro – good governance and effective partnership concluding remarks by mr andras simor, governor of magyar nemzeti bank ( the central bank of hungary ), at the conference “ on the road to the euro : good governance and effective partnership ”, budapest, 19 april 2007. * * * ladies and gentlemen, i should like to thank you for attending this conference, jointly organised by the ministry of finance and the mnb, and sharing with us your valuable thoughts on the forms and possibilities of co - operation between the government and the central bank on the road to the euro. i. the introduction of the euro is a joint enterprise for us. it is not merely a legal obligation we undertook in the treaty of accession but much more than that – a unique opportunity that may enable the hungarian economy to catch up more quickly and may ensure lasting economic and financial stability. however, we can only exploit the benefits of the common currency if we are well - prepared to enter the gate of eurozone. in these preparations important tasks that extend beyond fulfilling the nominal convergence criteria devolve upon both the government and the central bank. a. above all, the government must create a balanced budget that allows sufficient room for manoeuvre as a member of the eurozone to be able to reduce the fluctuations of growth in case of shocks to the economy. b. the central bank has to prepare players in the economy to exploit the benefits arising from price stability as well as possible. we need to learn that our income can only grow at the rate our productivity grows, and inflationary expectations must be anchored. ii. while we have to perform various tasks on the road to the euro, this is the common interest of the government, the central bank and all players in the economy, and so we have to we help and support each other. as it was emphasised in the speeches here today, the government and the central bank can co - operate most efficiently and achieve the best joint results if the tasks and the goal to be reached are defined precisely for both parties, but thereafter independence is guaranteed in using the instruments available to attain the set targets. iii. the central bank ’ s objectives in inflation targeting were jointly set by the government and the central bank, bearing in mind the government ’ s convergence programme. at the same time, as regards the way to reach the targets and achieve price stability as well as the instruments to do so there was no such una

ongoing balance sheet adjustment in the private sector. it is important to point out, that these feedback effects are also there when the risk premium increases – but with the opposite sign. these are the reasons why policymakers in countries where high debt burdens are coupled with currency mismatches must not be complacent. let me now turn to monetary policy related issues. currently we see a huge slack in our economy, which affects the behaviour of all economic actors. while there are clear signs of recovery in the export sector due to strong external demand, domestic demand is still very weak. the latter is reflected by the price setting behaviour of the private sector. while the evidence is still not fully conclusive, based on the latest data it seems likely that the passthrough of exchange rate fluctuations into consumer prices has slowed down. labour market data may point to the direction of a stronger than expected slowdown in nominal wage growth. inflation expectations at one year horizon are on the decline. although headline inflation is still a bit high, due to the above - mentioned factors, it seems more and more likely that our medium term target can be attained with the current monetary conditions. however, we are fully aware of possible upside risks to inflation stemming from imperfectly anchored long term inflation expectations and larger than expected increases in food and commodity prices, and will not hesitate to act if they materialize. of course, in this case we would face a trade off between inflation and output gap stabilisation, but given our price stability mandate and taking into account the inflation track record of the country anchoring inflation expectations should be the priority. another issue we faced was the recent appreciation of the swiss franc against the euro and the forint. since in hungary the majority of foreign currency loans are denominated in swiss francs, this put a particularly heavy burden on indebted households. beyond the adverse effect on their disposable income and thus domestic demand, borrowers ’ declining ability to repay their debt can lead to deterioration in credit quality, which, in turn, may prompt banks to reduce the supply of credit. moreover, since the share of switzerland in hungarian exports is negligible, there is no short term competitiveness effect stemming from the weaker forintswiss franc exchange rate. thus the strengthening of the swiss franc against the euro has only adverse effects on the hungarian economy. while this pressure eased somewhat lately, we should keep in mind that the swiss franc – euro exchange rate can