undisputedly assigns the central bank the primary objective of price stability, and the adoption of a clear monetary policy strategy, which quantitatively defines price stability and does not pretend to fine - tune directly the business cycle, can make the latter type of policy activism unnecessary in many circumstances. the reason is that this framework reduces uncertainty about the central bank ’ s ultimate motives, provides a stronger anchor for inflation expectations and makes it easier for the markets to map the expected path of the policy rate to the evolution of macroeconomic conditions. this would reduce the likelihood that expectations might overreact in the first place and, should expectation instability nevertheless occur, provides the central bank with an additional viable option. i will argue that under some conditions the central bank can regain control of private expectations without necessarily changing interest rates, but by being visibly and credibly “ alert ”, explaining and stressing its commitment to maintaining inflation at levels consistent with the price stability objective. the threat to act will be more effective the more credible the central bank has been over time in actually delivering price stability, as defined quantitatively. the paradox would be that this policy of a priori “ reinforced alertness ” would make the central bank appear ex post less “ activist ” in terms of changes to the policy rate. importantly, as a side effect, this policy would better sustain economic activity and minimise macroeconomic volatility. in practice, the central bank would normally make use of all available options – as circumstances dictate – to counteract situations that have the potential for undermining confidence and perturbing market conditions for a lasting period. we have done that in the past and we will do it in the future. as an example, under the chairmanship of my predecessor, wim duisenberg, whose passing away a month ago has deprived our community of central bankers of a man of remarkable wisdom and lucid judgement, we took immediate decisions after the dramatic events of 9 / 11, pouring very large amounts of liquidity in euro, setting up a swap agreement with the fed and decreasing rates. this has demonstrated very clearly that the ecb was eager to act decisively and immediately when appropriate and had absolutely no enshrined bias for waiting for the “ slowest ship in the convoy ”. this observation that all observers and market participants made was certainly important in reinforcing the credibility of the governing council of the ecb when embarking on a “ reinforced alertness ”. in all situations, we

the coefficients of an unknown model of the economy, using rolling windows of new observations, it can well happen that a shock of sufficiently serious magnitude can unsettle expectations, even under credible monetary institutions. the reason for this is simple. it might become impossible for private forecasters quickly to form a reasoned guess about the scale of the shock, its duration and persistence, and the likelihood that it might not be easily washed away, so that it would become, in their eyes, embedded in the fundamental relations regulating the functioning of the economy for some time to come. long - term expectations thus may over - react to the shock. they may drift endogenously reflecting the impact that the unprecedented disturbance exerts on agents ’ own re - assessment of the key structural features of the economy. these are times in which, typically, there is a disconnection between private views about the macroeconomic outlook and the central bank ’ s own internal forecasts. the expectation of the most likely outcome entertained by the median agent in the economy is likely to depart from the central chart 1 displays estimates of the output gap constructed by the european commission, the imf and the oecd. to better contrast the difference between initial estimates and revised data, chart 1 shows real - time estimates and the latest available revisions only and, making the simplifying assumption that data revised 3 years after the initial estimates are approximately correct, it displays revised data for the period up to spring 2002. scenario that is considered most plausible, given the conditioning assumptions, for purposes of the central bank ’ s own internal assessment of the macroeconomic outlook. as agents ’ expectations shape the market reaction to new economic data and to the central bank ’ s own policy actions, they embed information that the central bank cannot neglect or grossly underrate in its own analysis. the difficulty lies in devising a prudent way to factor such situations into policy. and here is where the fundamental tension inherent in our profession comes in. on the one hand we want to keep our eyes on the fundamentals and avoid being misled or intoxicated by what could well be noise and unfounded overreactions. on the other hand, excess endogenous volatility in private expectations could indeed provide advance warning of pending risks that the central bank should take into account. misled market expectations can prolong the dynamic response of inflation and real activity to an inflationary or deflationary shock of sufficiently great potency. this might entail serious