yves mersch : bridge forum dialogue introduction by mr yves mersch, governor of the central bank of luxembourg, to the speech by vaclav klaus, president of the czech republic, at the bridge forum dialogue conference, luxembourg, 8 march 2006. * * * mr. president, your excellencies, ladies and gentlemen, dear friends, in the bridge forum dialogue, we are most honoured to have with us, this evening, as guest speaker the head of state of the czech republic. we, in luxembourg, have a special place in our hearts for the czech republic dating back to the period when the house of luxembourg and bohemia were united between 1310 and 1437. vaclav klaus is such an eminent figure that it is almost unnecessary to introduce him. so, just a minimum of facts to refresh our memories. his academic field is economics which he studied in prague, and later, taking advantage of a period of relative liberalization, under communist rule, in italy and the united states. later, he taught economics at the charles university and the prague university of economics. in his political career mr. klaus has been, successively, finance minister of the former czechoslovakia and then prime minister, chairman of the parliament and, since february 2003, president of the czech republic. he played a leading role in the " velvet separation " of the czech and slovak republics. president klaus has written more than 20 books on political, economic and social themes and has received many prizes and honorary doctorates all over the world. mr. klaus has chosen as the title of his speech " some doubts about the eu ’ s ever - closer future ". he is known to be an excellent, even charismatic, speaker and he is fearless in expounding his own personal vision of europe. i have studied a number of recent speeches in which mr. klaus has set out his vision of europe. the points i shall make are not aimed at contradicting our distinguished speaker but merely at stimulating the debate. as a small country, luxembourg is staunchly expressing its confidence in further european integration and is deeply attached to the welfare state. as such but also as a seat of the european institutions, we are following the debate about " our europe " with great interest and the polls show that people in this spot of europe are better informed about and more aware of european matters than elsewhere. president klaus has strong views on europe and begs to differ from mainstream thinking, but on the european constitution he believes that " a new constitutional

core inflation was concerned. the projection of the head line inflation, however, was systematically too low, because – among other reasons – the scale of the pass - through of past energy or commodity price shocks into output prices has been underestimated. secondly, upward risks to headline inflation stem from pronounced base effects. base effects occur when variations in the annual growth rate of the hicp are the result of an atypical movement in the index in the base period. they tend to be particularly influential during periods when inflation volatility 12 months earlier was high, for example as a result of sharp movements in commodity prices. it is expected that 2011 will benefit from negative cumulative base effects from energy and food in 2010 of up to 0. 7 percentage points. thirdly, the choice of leading sub - indicators is a tricky one. let me give an example. in recent years energy prices, namely for crude oil, contributed to an increasing extent to the volatility of headline inflation. there is, in fact, not just one price for “ oil ”. traditionally west texas intermediate ( wti ) commands a higher price than brent crude. most recently the price differences between the two benchmark sorts of crude oil showed anomalies : on 1 march, wti was trading around 100 us dollar per barrel, while brent was at 114 us dollar per barrel. while this huge difference could be partially explained by regional factors like the cold winter in europe and the large stock of wti oil in the us, the reliability of these prices to signal global scarcity can be questioned. fourthly, one major driver of inflation is the dynamics of the economy. to measure the slack in the economy, the deviation of aggregate demand from the economy ’ s potential supply – the so - called “ output gap ” – is often seen as a helpful guide for policymakers. on this logic, inflation rises, when aggregate demand exceeds potential output. however, the concept of a stable relationship between output gap and inflation is not only frequently challenged in theory but also hard to apply in practice. the operational appropriateness of the output gap as a guide to policy is limited by the availability of reliable real - time estimates. for example, estimates of the euro area output gap, as published by international organizations from 1999 to 2004, underwent significant revision. some revisions matched or even exceeded the original estimate of the gap itself. bis central bankers ’ speeches complexity has increased further because of the financial crisis : in this context, the crisis has had