continue paying close attention to the exchange rate and exchange rate developments, in particular, towards the us dollar and the euro. on the other hand, there are good reasons to believe that, in an increasingly integrating world, the global economy needs more exchange rate flexibility in dealing with large shifts in relative prices that affect advanced and emerging countries differently. such large shifts in relative prices are almost certainly to occur under the assumption that the convergence of real income levels witnessed in many emerging markets in recent years continues. the recent rise in food and energy prices provides a prominent example of substantial movements in relative prices and their non - proportional impact on advanced and emerging economies. in such an environment, differing interest rate levels are needed to maintain price stability in the global economy. given their higher rates of inflation, higher interest rate levels would be required in emerging markets. assuming that authorities will face increasing difficulties in limiting capital inflows by administrative measures and changes in minimum reserve requirements, interest rate differentials can be achieved only with emerging markets adopting more flexible exchange rates. to a european observer the two opposing forces i have just described are quite familiar. they had been at the heart of the discussion on european monetary and exchange rate policies since the collapse of the bretton woods system. 10 and, in the 26 years that followed before the creation of the euro, the european countries tried almost any possible exchange rate regime to cope with the challenge of conducting independent monetary policies on an increasingly integrated continent. in the end, both “ corners ” prevailed : a hard peg among european countries and the euro area itself operating an independent float ( padoaschioppa, 1995 ). in light of this, it is not surprising either to observe that there are still differing exchange rate regimes among the new eu member states which have not yet adopted the euro. at the same time, real and financial integration in the eu is already strong and is set to increase even further. thus, given the unique institutional environment of european integration, countries are expected to adopt the euro once they are deemed to have fulfilled the conditions set by the treaty. globally, however, and having reviewed all arguments, i expect that the global monetary system of the future will probably consist of more emerging markets adopting a domestic nominal anchor and a more flexible exchange rate regime. from an emerging market perspective, dooley and garber ( 2005 ) explicitly compare the current configuration of the global monetary system with the later years of the bretton woods period. the main advantage of adopting a domestic nominal anchor instead of

. the pattern of financial integration has been very different as well. for advanced economies, financial integration has mainly taken the form of an intensive two - way trade of debt and equity instruments, reflecting portfolio optimisation strategies by private agents ( fecht et a. 2007 ). by contrast, emerging market economies strengthened their international investment position by a substantially larger and increasing share of fdi in total foreign liabilities, and a build - up of foreign exchange reserves. overall, the evidence suggests that – with the exception of the new eu member states, where financial opening has been a key prerequisite for eu membership – emerging markets have been pursuing a gradual approach towards financial integration. indeed, several features indicate that countries have aimed at reducing vulnerabilities to sudden stops and reversals of capital flows ( edwards 2007, kose, prasad, terrones 2007 ). this may have lessened the need for further movements towards the “ corners ”, hard pegs and managed or independent floats, in the past few years. monetary policy let me now turn to monetary policy. chart 3 shows that, since 2002, inflation rates have been converging in emerging markets to moderate levels, irrespective of the exchange rate regime chosen ( white 2008 ). how have countries achieved this outcome? distinguishing between countries with a soft peg and countries operating a managed or independent float prompts the following observations. 1. several countries with a soft peg reverted to outright administrative measures, sterilised interventions and rising minimum reserve requirements to limit the inflationary impact of rising capital inflows, in some cases supported by fiscal policy ( mohanty and scatigna, 2005 ; cardarelli, elekdag and kose, 2007 ). 2. countries with a domestic nominal anchor made use of the flexibility with regard to interest and exchange rates to reduce inflation and achieve price stability. at the same time, the substantial accumulation of foreign exchange reserves suggests that the exchange rate has remained an important policy objective for many countries with a managed and independent float ( imf 2005, rose 2006, edwards 2006, mishkin and schmidt - hebbel 2007 ). 3. more recently, emerging market floaters with inflation rates reaching levels close to those in advanced economies have been able to maintain price stability without major exchange rate fluctuations by following the pattern of interest rates in advanced economies. overall, the evidence on monetary policy may be summarised as follows : with the great moderation – or to put it in