think of public debt in major countries as a riskless asset. not anymore, not to the same extent. in that sense, a true regime change has occurred, with deep and long - lasting consequences, upon which i will try and reflect today. much what i will say, of course, relates to europe. but i will also adopt a more global perspective. over the last 70 years, financial markets have developed on a strong, albeit implicit, assumption. public debt in advanced economies was considered risk free. on that basis, it was possible to build a whole architecture of asset prices, whose relative riskiness is determined according to the intrinsic characteristics of assets and investors ’ risk appetite. the important word here is “ relative ”. to price financial assets, markets need a basis – a risk free rate. that basis has now been shaken. immediate consequences seem benign in the us. markets have judged, and rightly so, in my view, that there is currently no alternative to us debt as the most liquid market and it remains the ultimate benchmark for assessing risk. so, if anything, the downgrade of us debt was followed by new inflows into treasuries and a decrease in us interest rates across the yield curve. at the same time, however, a pervasive uncertainty has been created, which might be bis central bankers ’ speeches responsible for the strong decline in confidence and equity prices that has occurred over the last weeks. in europe, of course, sovereign credit risk has had more immediate and dramatic consequences, with an abrupt increase in sovereign spreads for peripheral countries following the july 21st statement. it remains difficult to foresee how, in the longer run, markets will assess debt sustainability in different countries and jurisdictions. that assessment depends on a complex process, where, together with economic fundamentals, subjective probabilities, self - fulfilling beliefs and other influences play a major role. the certainty that debt would be paid in full strongly anchored market perceptions in the past. now that this certainty is gone, debt sustainability may well rest on a more fragile and volatile basis. as we all know, debt sustainability depends on three variables : the primary surplus, the growth rate and the interest rate. the relationship between those three parameters and debt can be expressed through a simple equation, the famous “ unpleasant arithmetic ”. assessing sustainability seems therefore relatively straightforward. many economists and market analysts on sovereign european debt simply assume low growth and high interest rates forever in peripheral countries – which enables them to conclude cat

the governments. this is why we have been asking for more flexibility in the efsf and very much welcome decisions taken in this regard on july 21st. whether amounts are big enough is a matter of opinion. it would be unrealistic to expect an increase in the efsf itself but i am personally open to any scheme that would allow existing commitments to be leveraged to provide greater intervention capacity. at the moment, the kind of insurance that most monetary authorities provide may look cheap because inflation is projected to stay low in the foreseeable future. but this equilibrium could be unstable in a different inflation environment. while markets are currently rewarding those countries which liquefy public debt, they seem to be aware of some inflation “ tail risks ” and hedge themselves through gold and the chf – whose prices have reached historical highs. at this stage, therefore, the euro area is paying a double price. one for its mistakes and one for its virtues. the mistake, for governments, was to allow the piling up of debt through unsustainable fiscal policies over a decade, and then to create ex nihilo a doubt as to their ability to pay those debts. and we are also paying the price for our virtue and our refusal to liquefy our debt through massive monetization of our fiscal deficits. will our virtue be rewarded at the end? i believe so and, to explain why, i need to take a longer - term perspective. in the next decade, the world will be divided into two : on the one hand, advanced economies, with high absorption capacity, low savings and high debt with ratios between 85 % and 100 % ; and, on the other, emerging economies, with high savings, low debt ( around 30 % gdp on average ) and less absorption capacity. our common prosperity will therefore depend on our ability to create stable channels and mechanisms of financial intermediation between those two parts of the world. that, in turn, will crucially depend on the existence of assets that can be considered safe stores of value. as i have said from the start, public debt may not be able to play that role to the same extent as before. the ultimate safe asset, therefore, will be the currency itself. markets and lenders will trust those currencies that, whatever the circumstances, are managed with one overriding priority : preserving price stability and the intrinsic value of the currency unit. on this fundamental basis, we can look at the future of