they are losing credibility with the markets, so that inflation expectations begin to drift and rise above ( or fall below ) a desired level, they must take actions to restore their credibility. at the federal reserve, we understand the importance to the health of the economy of anchoring inflation expectations. this is why federal reserve officials continually reiterate our commitment to maximum sustainable employment and price stability, why we have been willing to make preemptive strikes against both inflationary and deflationary pressures, and why we remain vigilant about developments in the economy that could lead to persistent departures of inflation from levels that are consistent with price stability. my view – that recent changes in inflation dynamics result primarily from better - anchored inflation expectations and not from structural change or simply the achievement of a persistent low rate of inflation – implies some very good news : potentially inflationary shocks, like a sharp rise in energy prices, are less likely to spill over into expected and actual core inflation. therefore, the fed does not have to respond as aggressively as would be necessary if inflation expectations were unanchored, as they were during the great inflation era. indeed, this can help explain why the recent sharp rises in energy prices have had a much more benign effect on the real economy than they did in the 1970s – a point that then - governor ben bernanke made three years ago. although solidly anchored inflation expectations are indeed highly desirable, they could pose a bit of a problem for monetary policy if they were at a level somewhat above or below the rate preferred by policymakers. under such circumstances, the central bank would likely be interested in shifting the public ’ s expectations in a more favorable direction. whether such adjustment would be easy or difficult is, unfortunately, quite uncertain because we do not understand the expectations - formation process very well. in some early models that used the rational expectations assumption, changing inflation expectations was relatively easy and thus implied sacrifice ratios that were extremely low, suggesting that the monetary authorities could shift inflation at little cost. however, the historical record suggests that permanently lowering inflation expectations may require keeping monetary policy tight for a substantial period, resulting in considerable output and employment losses for a time. on the other hand, as christy and david romer ( 2002 ) have pointed out, the federal reserve in the 1970s overestimated the cost of reducing inflation because estimates of sacrifice ratios by arthur okun and other economists at that time proved to be too high. as a historical note, this provides one explanation for the federal

. monetary authorities also play an important role in this process by conducting a credible policy which leads to price stability and thus creating an environment where entering into erm ii will be smooth and credible. most of the results presented here are broadly in line with the ecb ’ s view that eu enlargement has positive implications for economic growth and welfare in both the “ previous ” and “ new ” member states ; unfortunately, these benefits have often been set aside in the public debate. already the prospect of the countries joining the eu had positive implications. as trade and capital movements have been to a large extent liberalised well before accession, the degree of integration had already reached a significant level between the new and previous member states. in fact, at the eve of eu enlargement the euro area directed around 11 % of its total exports and imports to the new member states, an increase of almost 50 % in 10 years ; the 10 new member states as a group represent one of the main trading partners of the euro area, exceeding trade with japan by far ( 8 % ) and being only somewhat lower than the european trade with the united states ( 14 % ). similarly, the share of the eu - 15 total foreign direct investments that was orientated towards the new member states was also around 12 % and tripled since 1999. while these figures are still low compared to the fdi flows directed to the us, they are considerably higher compared to those flowing to japan. in addition, the prospect of eu enlargement has significantly sheltered the new member states from adverse spill - over effects coming from other emerging markets. with eu enlargement now in place, economic and financial integration will advance further. with the extension of the single market to the new member states all remaining barriers to trade and capital flows have been removed by now, thereby supporting further integration. it is already observable that small and medium - sized enterprises from the eu - 15 countries are becoming significantly more active in the new member states, as the economic and legal environment has become more stable upon accession. let me stress that enlargement has also led to higher competition in the eu and enhanced the scope for economies of scale following the increase in the market size. by this, productivity will rise, thereby contributing to an increase in the potential growth rate of the eu. it is important to note that also the “ previous ” 15 member states will be affected by higher competition in the eu, which could accelerate structural reforms in these countries. in fact