mid - year to levels not seen since the 1950s. this suggests a very high degree of risk aversion on the part of investors, as does the fact that the spread over treasuries for many well - known corporate borrowers has widened appreciably. not surprisingly, yield curves, which in mid - year had indicated an expectation of future tightening of monetary policy in most countries, have gradually moved to showing either no tightening or an easing. in the united states, events have unfolded even further, with the fed reducing the fed funds rate by 50 basis points last week. in summary, i think we could say that while economic forecasters have become mildly more pessimistic since mid - year, financial markets have become much more pessimistic. why is this so? i think the answer to this is that there are a lot of things happening in the financial and corporate sector that are very unsettling, but which are difficult to incorporate into a conventional economic forecast. the main reason is that none of us really understands the full implications of the bursting of the equity bubble that occurred in the united states and, in a slightly different form, in europe. although each of the 20th century ’ s major asset price booms and busts unfolded differently, the contractionary influences were usually felt over quite a long time span, with many of the effects only showing up a few years after the initial downturn. there is still a fair bit of apprehension that further bad news will appear, and a lot of questioning as to whether the full extent of the fall in corporate earnings has been revealed or is accurately reflected in current forecasts of future earnings. failures of accountancy, auditing and corporate disclosure have left a lot of investors and businesses in a position where they are reluctant to commit themselves because they are unsure of the veracity of the information on which they must base decisions. some major sectors of important economies are still under pressure as they adjust to a situation of over - capacity and extreme competition. this applies to the world ’ s telecommunications, media and it industries. others are suffering directly from the worldwide fall in the value of equities, for example the european insurance and re - insurance sector, plus those well - established companies on both sides of the atlantic which are facing under - funded employee pension and health schemes. we at the reserve bank have closely followed these market developments, and they do naturally influence our judgment about the balance of risks to the forecasts of the world

i j macfarlane : monetary policy in an uncertain world talk by mr i j macfarlane, governor of the reserve bank of australia, to ceda annual general meeting dinner, melbourne, 13 november 2002. * * * this is the fourth time i have addressed ceda ’ s annual general meeting in melbourne, and following the practice adopted on earlier occasions, i would like to focus on a topic of current interest. last time i was here two years ago, i devoted the whole speech to the exchange rate. this time i have found no need to mention it, as there are other more important things on our mind and, i think, of more interest to you. last year - that is, calendar 2001 - was a difficult year for the world economy, in particular for the g7 countries, where over the course of the year output declined. so for the developed world it was a recession year, although a mild one by past standards. monetary policy was eased virtually everywhere, particularly towards the end of the year when confidence about the future course of the world economy declined further following the events of september 11. as you know, the australian economy grew very well during the international contraction of 2001, although we looked abroad and to the future with some apprehension. as the year 2002 began, it appeared that the worst fears for the future had evaporated. the us economy was always likely to enjoy only a relatively modest recovery, but appeared to be making a pretty quick turnaround, exceeding even the most optimistic forecasts, and confidence picked up - not only there, but in europe, and even for a time in japan. those countries with strong domestic fundamentals - such as australia, canada, sweden and new zealand - began the process of getting their interest rates back to levels that were more commensurate with their domestic needs. but in about the middle of the year this confidence about the recovery of the world economy began to wane, and one of the consequences was that the upward adjustment of interest rates by the countries with strong domestic fundamentals was discontinued. i would like to spend some time examining this period from the middle of the year in more detail to see what it tells us about the future of the world economy. the outlook for the world economy a good way of illustrating the change in outlook is to see how consensus forecasts for 2002 and 2003 for the major economies - the united states, the euro area and japan - have been adjusted since mid year. the first thing to notice is