asset purchases and liquidity provision to banks in the euro area have clear fiscal consequences and there have recently been several political calls for more action from the central banks. second, one can ask whether this kind of policy mix can lead the economy back to the “ normal regime ”, where inflation is near the targeted level and the economy grows near its potential. the traditional answer is due to pigou and patinkin, who argued that wealth effects at very low inflation levels eventually lead to increased consumer spending and recovery of the economy to the normal regime. it should be noted that efficacy of the pigou - patinkin mechanism depends on the degree of private - sector indebtedness – high debts weaken the mechanism. modern answers to this question are surprisingly few. looking at current research, there has been a lot of work in the efficacy of fiscal policies when interest rates are at their effective lower bound. 2 another major research effort focuses on the significance of financial market imperfections for macroeconomics and for macroeconomic policies. 3 however, i have seen only limited amount of new work that tries to assess the role of monetary and fiscal policies in aiding the path toward the normal regime. a careful approach requires taking a global viewpoint. i do not have time to go into further detail, except to note that this area is in need of much more research. 4 iv. interrelations between domains of fiscal and monetary policy the latest stage of the financial crisis, the sovereign debt crisis, is also affecting the boundary between monetary and fiscal policies. this situation is not new. we know well from economic history that the lines between monetary and fiscal policies and the respective decision - makers become strained from time to time in situation of high levels of public debt. the recent paper by reinhart and sbrancia ( 2012 ) describes very well the strains in this relationship in the decades after world war i and ii. the current situation has compelled many central banks take a more encompassing view of their mandate in relation to the fiscal authorities. in particular, there are major difficulties in the euro area in this respect, though the debates are also visible in other countries, for example, in the uk and the united states. the ecb is the central bank not for a single sovereign country but for 17 sovereign countries. in this setting there is no one - to - one correspondence between the ultimate owners of the central bank and the ultimate owners of each government ’ s budget. the fact that the ecb has to serve 17 sovereigns

consider the sustainability of the developments in the banking sector and their compatibility with price stability. after the hard lessons we learned over the last five years, the case for benign neglect of asset booms and only picking up the pieces afterwards is not very attractive. the crisis experience supports rather the idea that financial excesses are better prevented as they happen than only managed after they have caused a recession. one option is leaning against the wind. that would mean taking the price stability objective in a more flexible way and paying more attention to asset prices in monetary policy formulation. but there are difficulties with that : one difficulty is the problem of detecting the credit cycle in time, and correctly timing the monetary policy response. another problem is that price stability might get too little attention. if the price stability objective had to be compromised because of the developments in the banks and in the financial markets, we would actually have a case of financial dominance. how can this be avoided? naturally, it is the quality of commercial bank management and the internal incentives built into the banks ’ management systems that are the first line of defence. but we have also learned that prudent management practices need to be supported by good and effective regulation. this leads to my other main point today. in today ’ s environment, the effective independence of monetary policy requires good regulation which ensures that the banking system as a bis central bankers ’ speeches whole remains stable and solid through the interest rate cycle, not only in times of tight monetary policy but also in times of very accommodative monetary policy. like the fiscal discipline of governments, which protects monetary policy from forms of fiscal dominance, effective banking regulation protects monetary policy from financial dominance. we can see how these prerequisites for independent monetary policy are as important for today ’ s accommodative monetary policy as they were for a disinflationary monetary policy when the concept of independence was developed. * * fortunately, major progress has been achieved in the field of banking regulation, not least in the euro area with the banking union. there are three aspects of the developing banking regulation that i want to mention in this connection. first, the prudential regulation of banks is now stronger and more uniform than before. banks ’ capital ratios have been strengthened a lot since the crisis, and the responsibility for supervision has been centralized at the ecb. this has already made banks more resilient in the face of any future shocks. the new bank recovery and resolution framework is also part of the