millions of euro, at 1995 prices ) has fallen from 160 in 1973 to 80 in 2001. a second factor that may have contributed to resilience to oil price shocks is an improvement in product and labour market flexibility over time, thus facilitating the reallocation of resources and lessening the impact of oil price increases on economic activity. for instance, wage indexation appears to be less widespread at present than in the 1970s. last, but not least, the increased effectiveness of monetary policy in firmly anchoring inflation expectations for the euro area as a whole has contributed to enhancing resilience, as the solid anchoring of expectations is a necessary condition for preventing oil price increases from leading to the emergence of secondround effects in wage and price setting. turning to more recent developments in economic activity in the euro area, over the last few quarters more positive fundamentals have gradually come to influence both economic growth developments and market sentiment. from the external side, global demand has seen a protracted expansion that has consistently supported euro area exports. domestically, financing conditions have remained very favourable for an extended period of time, which has, in particular, allowed firms to engage in balance sheet restructuring, to achieve efficiency gains and to improve earnings. the medium, long and very long - term, nominal and real interest rates have been low for a protracted period and still remain at historically low levels, thanks, in particular, to the firm anchoring of inflation expectations. against this background, the expansion of economic activity in the euro area has strengthened and broadened since the second quarter of 2005, reflecting, in particular, stronger investment. the improvement in investment growth has been particularly marked : quarter - on - quarter gross fixed capital formation growth increased to 0. 9 % in the second quarter of 2005 and to 1. 3 % in the third quarter, compared with only 0. 1 % in the first quarter. taken together, the second and third quarters of 2005 posted a gdp growth of 1 % ( 0. 4 % + 0. 6 % ), half of it due to the sole contribution of capital formation ( 0. 5 % ). as regards price trends over the last few years, headline hicp inflation rates in the euro area have remained elevated, at rates just above 2 %, mainly as a result of the strong increases in energy prices and, to a lesser extent, rises in administered prices and indirect taxes. however, when seen from a historical perspective, a further notable achievement of the euro area economy during

jean - claude trichet : monetary policy and economic prospects in the euro area speech by mr jean - claude trichet, president of the european central bank, at the institute of economic affairs conference on “ the state of the economy : overcoming key challenges to sustainable economic growth ”, london, 6 february 2006. * * * ladies and gentlemen, i would like to start by thanking the institute of economic affairs for inviting me to speak at this 23rd annual conference. the annual conference of the institute is a well established forum for discussing key policy issues of a global dimension. i appreciate this opportunity to discuss, in this forum, recent developments in the euro area economy and its prospects for the future. talking about the state of the economy and economic prospects is demanding. not least, it requires being able to articulate sound forecasts of future developments – which as you all know very well – is a particularly daunting task. nevertheless, as central bankers, we are required to be forward - looking and to regularly assess future economic prospects. when making these assessments, however, we are forced to rely on data and information that are available in real time. in this sense, steering monetary policy is, in many respects, like driving a car : without only looking at the immediate part of the road, but also having also to anticipate the direction ahead relying on the images provided by the rear view mirror. i will organise my remarks as follows. i will first review what can be seen in the rear - view mirror, namely the evolution of the euro area economy in the recent past. i will then discuss the analysis underlying the latest policy decisions of the ecb ’ s governing council and the broad direction for policy ahead of us. what have been the major recent trends in the euro area economy? over the last few years, the euro area has witnessed a gradual recovery in economic activity. the recovery started in the second half of 2003 and has now led to ongoing trend growth rates that seem to be close to our present estimates of the potential growth rate of the euro area economy. several factors are behind the relatively gradual pace of this recovery, including oil price increases, the restructuring and reshaping of the productive sector triggered by global competition, and a possible decline in potential output growth. first, taking a longer - term perspective, there is some evidence that, underlying the moderate growth rates over the last few years, there may have been a decline in trend potential output growth in the euro area, particularly when comparisons are