stability. the argument goes as follows. the extended period of steady growth and low and stable inflation during the great moderation lulled central banks into complacency. only with the benefit of hindsight is it now clear that the prolonged period of price stability blindsided policy makers to the cancer of financial instability growing in the underbelly. an even more recent example of a conflict between policies for financial stability and price stability is of the ecb reversing its crisis driven expansionary stance by raising interest rates twice during april – july 2011. the ecb justified this on the argument of stemming the underlying inflationary pressures, but many criticized this move as being premature and as clearly unhelpful to restoring financial stability. of course, we all know that the ecb reversed these hikes during november – december 2011 in response to the euro zone slow down. ( ii ) financial stability → price stability let us now see the interaction in the reverse direction. whether policies aimed at financial stability can affect price stability is a debate that has stayed with us all through the period of management of the crisis. many analysts have argued that the extraordinary monetary expansion, especially by the fed, to bring interest rates to the zero lower bound ( zlb ) and following it up with two rounds of “ quantitative easing ” ( qe ), all aimed at restoring financial stability, may actually be sowing the seeds of inflation. the argument goes that since the inflationary impact of easy monetary policies is difficult to see real time, the fed risks going overboard with monetary easing thereby jeopardizing future price stability. we also have an illustration from emerging economies of policies for financial stability affecting price stability. during the crisis, eme central banks eased monetary policy to provide relief to the financial sector, but this also saw inflation quickly resurging when recovery started. ( iii ) financial stability → sovereign debt sustainability the management of the crisis offered an important lesson on how policies aimed at restoring financial stability could impair sovereign debt sustainability. by far the most obvious illustration of this link is the cost of bail outs of failing financial institutions, accompanied by “ fiscal stimulus ”, to prevent the financial sector problems from causing overall economic activity to collapse. the fiscal action was unquestionably necessary to restore financial stability. but the net impact need not always be benign. there are circumstances under which fiscal expansion in support of financial stability can threaten sovereign debt sustainability. that will happen if the sovereign is already highly indebted, and the

but it will be difficult to have a demand for credit if there are no jobs or if employment is at wage levels of the 1980s. a : people will end up getting work if companies manufacture good products and provide good services and there are customers to buy them. monetary policy can help by providing sufficient liquidity and by steering that liquidity to where it is most needed. this is what the targeted longer - term refinancing operations adopted in june and the measures announced last thursday, namely the programme to purchase asset - backed securities from the private sector, are aimed at. we want there to be sufficiently ample liquidity and for the ecb ’ s balance sheet to move back towards previous levels [ note from the editor : to go up to €3, 000 billion from the current €2, 000 billion ]. and we want to do this in a way that is meaningful for the economy. that is why it is not a quantitative increase in liquidity ( quantitative easing or qe ), but is targeted and aimed at facilitating the flow of credit. in a way, i would describe it as a qualitative increase rather than as a quantitative one. however, we should not get into a debate over terminology. at the ecb, we do not believe in magic words, qe or otherwise. what we want to do is to devise a monetary policy that is effective in the current economic situation and that fits europe ’ s economic framework. thus, inevitably, the ecb ’ s monetary expansion is unlike that conducted in the united states or the united kingdom. we are at a different juncture and our economy is structured differently. in fact, we cannot draw too many lessons from what other central banks have done, because our situation is so different. q : has an actual target been set for the expansion of the ecb ’ s balance sheet? a : no, we have not set a particular target, because we will do whatever is useful to facilitate the flow of credit to the economy. we have announced a programme to purchase assetbacked securities and covered bonds. depending on its impact on growth and inflation, this programme can be expanded. the governing council will monitor developments, discuss them, and take decisions as appropriate. q : you have been accused by some of instigating a bubble, particularly of public debt. a : it is true that there is currently an enormous amount of liquidity at the global level in general and in the euro area in particular. and there