there is an income and substitution effect at work here. quite likely, these policy actions boost demand in the world as a whole. but if the exchange rate appreciation is large enough in a particular country or if a country doesn ’ t trade all that much with the one doing the qe, the effect of that appreciation may outweigh the positive effect of stronger global demand. that is, for a given economy, the substitution effect may dominate the income effect. this is particularly likely to be the case for a smaller country, where the size of the capital inflows it attracts may be large relative to the size of its economy, even if the capital flows are small for the large country that is easing its policy. 9 so while it may be the case that the monetary for those who are interested, these transactions are evident in a couple of statistical tables on the rba website. in table a4, the rba ’ s transactions in foreign exchange markets are recorded. the first column shows the bank ’ s dealings with the market, the second, our transactions with the government, and the third, our dealings with other customers, as well as the interest earned on the reserves. the net of all these three columns are the bank ’ s additions to its outright foreign reserve holdings. most of the time, the number is a low positive one, reflecting the monthly earnings on the reserves. ( columns one and two tend to offset reflecting the way in which sales of foreign currency to the government are funded in the market. ) but in the second half of 2012, the number is a larger positive number which reflects the transactions i am referring to here. the rba ’ s balance sheet is published weekly, and you can also see the effect of the transaction in temporarily boosting customer deposits through this time. the governor covered some of these issues in “ challenges for central banking ” ( 2012 ), address to the bank of thailand 70th anniversary and 3rd policy forum, bangkok, 12 december. the starkest case of this recently is the experience of switzerland, where the size of the capital flows they received from europe, when concerns about euro a break - up were at their height, was huge relative to the size of the swiss economy. this was reflected in the accumulation of foreign reserves by the swiss central bank, which amount to more than 80 per cent of gdp now. to put that in context for an australian audience, if the rba accumulated a similar amount of reserves, they would amount to over a

minimum wage, the interest rate charged on a particular loan, or my bank balance. a somewhat less straightforward set of concepts are those that aren't quite directly observable, but are measurable, perhaps with some effort. often these are collective measures of related individual quantities that are not completely homogeneous. they include things like the unemployment rate or inflation. individual employment statuses and individual prices can in principle be directly observed. but you have to make choices about how to combine those individual states into an economy - wide statistic. harder still are the things that are unobservable but are inferable, because they can be detected indirectly. this might be because of the effect they have on something that is more easily observed. a good example here is the nairu – the rate of unemployment below which wages growth starts to pick up. you can't observe it directly, but you can guess that you are below it if wages growth is accelerating. another kind of inferable is the subjective view someone has about an observable or measurable quantity. expectations and forecasts fall into this category. you can't directly observe the expectation inside somebody's head, but you can ask about it. and because it's a belief about something more concrete, people should be able to elicit those beliefs. so the two unobservable things in our phillips curve are, at least in principle, inferable. but they aren't directly measurable and it is reasonable to expect that they might be estimated with considerable error. finally, though, there are important economic concepts for which measurement can only be regarded as impossible. sometimes this is because they are complete abstractions, where measurement depends entirely on an assertion that some observable thing is ‘ really ’ the abstract thing. think of things like ‘ social capital ’, ‘ ease of doing business ’, or ‘ animal spirits ’. what are they, and how would you know if they are changing? other impossible concepts include qualities of people's preferences or beliefs that they can't reasonably be expected to elucidate. these include time preference, risk preference, and elasticities of substitution. if a pollster called you tonight and asked you about your rate of time preference or the curvature of your utility function, could you tell them? now, maybe you could elicit somebody's time preference or risk appetite indirectly by watching people's behaviour as circumstances changed. this is what we mean by ‘