glenn stevens : latest economic and financial developments in australia opening statement by mr glenn stevens, governor of the reserve bank of australia, to the house of representatives standing committee on economics, sydney, 24 february 2012. * * * when we last met with the committee in august, we had entered a period of heightened uncertainty about the global economy and financial system. the investment community was focusing increasingly on the high levels of public debt in major countries, and especially on the situation in the euro area, where budgetary pressures, banking pressures and competitiveness issues within the single currency area make for a very difficult set of problems. there was considerable instability in markets. but our view at that time – tentatively – was that we were not witnessing a repeat of the events of late 2008. admittedly, the second half of 2011 saw some very anxious moments. there was a flight from risk that pushed up borrowing costs for major countries like spain and italy, but pushed them down for countries like germany and the united states to the lowest levels for more than 50 years in spite of the fiscal challenges the us itself faces. funding markets for european banks in particular effectively closed for a few months, and for other banks became much more difficult and certainly more expensive. the palpable fear before christmas that europe was on the brink of some sort of very bad financial event has lessened over our summer. the anxiety has not gone entirely away, and nor will it for some time. but the worst has not happened. financial markets, while hardly brimming with confidence, have recovered somewhat over the past couple of months. banks are able to access term funding markets again, albeit at higher cost. high - frequency gauges of business conditions and confidence have stabilised over the past couple of months in asia and north america, and even in europe. we have not seen the very steep fall that we saw in all these indicators in late 2008. the actions of the european central bank contributed greatly to the stabilisation of financing conditions, essentially by removing, for a time, questions over the funding of european banks. the efforts of european leaders to craft a stronger framework for euro - wide governance on the fiscal side have also continued. a great deal more needs to be done to place european banks and sovereigns onto a stable footing, and to boost potential growth in europe. but progress is being made. forecasts for the global economy in 2012 have been marked lower, mainly due to the effects of the problems in the euro area. revisions to

moore critique by making inflation itself, as well as the levels of wages and prices, costly to adjust. the implications of these additional frictions are very similar to those of the departures of expectations from perfect rationality used by other modelers. an advantage of a model with expectations that are, at least in part, rational is that we can address questions related to how the behavior of the economy may change when the systematic implementation of monetary policy changes. we also look at models that assume that inflation expectations are well modeled by lagged inflation the original proposal of friedman and of phelps. such models may not be as useful in addressing policy questions. however, they have a good forecasting track record. the econometrics of price determination ( 1972 ), proceedings of a conference sponsored by the board of governors of the federal reserve system and the social science research council, october 30 - 31, 1970 ( washington : board of governors of the federal reserve system ). jeff fuhrer and george moore ( 1995 ), " inflation persistence, " quarterly journal of economics, vol. 110 ( february ), pp. 127 - 59. the performance of the board staff's inflation forecast the board staff forecasts distributed to the federal open market committee ( fomc ) are judgmental : although the staff consults a variety of models in coming up with its forecasts, no one model can be said to summarize the staff view. also, the staff forecasts are not necessarily its best guess on how inflation will evolve ; the forecasts are conditioned on an assumed path for monetary policy and, during some periods, at the behest of policymakers, the staff did not assume what it would have viewed as the most likely policy path. i have distributed a figure that shows the board staff's four - quarter - ahead forecasts for inflation as measured by the core consumer price index along with the actual outcomes. the period shown is 1984 to 2000 ; i chose those years because the current definition of the core cpi did not come into use until 1983, and the staff's forecasts remain confidential for five years. as shown in the inset box, the root - mean - squared error of the staff projections has been smaller than that of a naive benchmark model, in which inflation is assumed to continue at its pace over the preceding four quarters. nonetheless, the one - year - ahead root - mean - squared error of the staff forecast is about 1 / 2 percentage point. that is