role in their arguments. the most important thing to comprehend, these academics claimed, was that the relationship between unemployment and inflation was stable only when inflation expectations were stable. if this was not the case, then the relationship itself would change in structure, and hence collapse. the phillips curve would simply shift. the key argument was that inflation expectations of individuals enter the relationship between unemployment and inflation because individuals need a measure of inflation to determine the next periods ’ real wage. in the end, real variables like unemployment or output can only be determined by real variables like the real wage. once individuals have adapted their expectations to the accommodative monetary policy of the monetary authority, further monetary expansion is like pushing on a string. it can only lead to high inflation, leaving unemployment unaltered. the time inconsistency nature of this problem lies in the fact that only unanticipated inflation leads to lower unemployment because it depresses real wages. again, the socially optimal strategy of the monetary authority changes between periods. ex - ante it is optimal to follow a restrictive monetary policy aiming at low inflation. ex - post however, when expectations of the public are formed, and have induced a certain behaviour of the agents, it is optimal for the monetary authority to defect and produce " surprise " - inflation. the monetary authority, however, cannot permanently fool agents with rational expectations, because they are aware of the incentives of the monetary authority to regress on its decision about inflation. so in the end, any attempt of the monetary authority to exploit the phillipsrelationship is doomed to produce inflation without reducing unemployment. a related example in the luxembourgish context consists in the nominal wage - indexation rule, which characterizes wage setting behaviour in the grand duchy. the wage - indexation rule may in a model of the phillips curve, prima facie, seem as a device to stabilize inflation expectations, and alleviate the inflationary bias. however some important caveats do apply. wage - indexation is per definition backward looking so that information concerning expectations is ignored. moreover, it is prone to supply shocks that strike the economy and may, through second - round effects, heat the wage - price spiral. recent oil price increases, to name but the most prominent example, have fed into price increases, which in turn have triggered several increases of the index. through this channel supply shocks have a stronger and more lasting effect than they would without indexation. several alternatives to resolve this problem have been suggested

of decision for economic policy ”. this coordination body for economic policies should have been established alongside the european system of central banks, i. e. the monetary authority. both institutions were to be independent from the national governments, being politically accountable only to a european parliament. this independent economic authority should have influenced the national budgets with a focus on the level and the direction of the balances as well as the financing of deficits and the use of surpluses, respectively. the werner report also advocated a certain degree of tax approximation especially for cross border activities. when the intergovernmental conference on emu started, europe had endowed itself with a parliament, but with limited powers and no capacity to levy taxes and to control centralized policy making at european level. most european resources were transfers from national budgets. tax sovereignty was left untouched after a timid attempt to change tack in the socalled guigou group set up by president mitterrand to prepare the conference. during the conference an attempt by belgium and italy to move into the tax area ran into massive resistance. political union was off the agenda and loose coordination of economic policies was deemed sufficient. it was believed that market discipline would install responsible behavior in the fiscal and competitive position of countries. the land grabbing attitude of the european commission pretending to be the economic and fiscal authority in the event of more integration indirectly strengthened the case for the intergovernmental approach and the socalled own responsibility of each individual country in this respect. it can seem surprising that governments were so confident about market discipline and reactive national policies when one major factor of self - correction within a currency union was by design rather weak in europe, namely labour mobility. true, progress has been made in language knowledge, university students exchange, diploma recognition and access to professions. mobility is good at the lower and higher skill ends, but the high share of closed public service in europe, non - portability of pension rights, rigid labour laws and cultural differences make labour mobility a slow process. therefore in 1997 the treaty was complemented by the stability and growth pact which has mostly focused on fiscal deficits. the result proved insufficiently coercive and was even further weakened when germany and france failed to abide by the rules in 2003. the absence of a meaningful macro - economic surveillance led to heterogeneity which was further accommodated by the absence of expected market reactions. today we have to acknowledge that market reactions often come with delays and then tend to overreact. but let