lower interest rates triggered by secondary purchases could give rise to bad incentives, impede market discipline and delay necessary fiscal adjustment efforts. this is the very reason why strict and explicit conditionality is attached to omts. 4. central banks have been active ; they have been audacious ; but they do not have unlimited power. this may be a good time to reflect upon what monetary policy can and cannot do. i will concentrate on one specific question : the so - called “ decreasing returns ” of non - conventional monetary policy. the argument goes as follows : balance sheet expansion and low interest rates create potential imbalances in the financial sector. past a certain stage, the potential cost and instability stemming from these imbalances far outweigh the short - term benefits for the economy. there is, indeed, a difficult trade - off. the very purpose of non - conventional policies is to induce some risk - taking, encourage portfolio rebalancing and stimulate lending by the private sector. the danger, of course, is that “ wrong ” risks are being taken with no credit to the productive economy and low interest rates causing a search for yield in speculative assets. the situation, therefore, requires a very subtle calibration of our overall stance. it seems crucial today that we carefully consider the joint effects of monetary and prudential policies – both on capital and liquidity requirements – to make sure that they do not produce unintended effects on capital allocation. 5. central banks ’ actions are not limited to fighting the crisis and stabilising the financial system. in the euro area, under the impulsion of the european council, we are working on building a more robust and efficient financial system. one major weakness revealed by the crisis is the strong link between banks and sovereigns. as a result, any negative fiscal shock or bad news has an immediate adverse effect on the overall financing conditions for the private sector. and, at the same time, difficulties experienced by banks give rise to expectations of a public bail - out and lead to a deterioration in the perceived creditworthiness bis central bankers ’ speeches of the sovereign. such very powerful and perverse feedback loops have been at work during critical phases of the crisis, over the last two years. the purpose of the banking union, decided on in june, is to break that link and create, as a first stage, a single supervisory mechanism in the euro area under the auspices of the ecb. it is essential that the banking union be rapidly

implemented, covering all credit institutions. it will restore confidence in the banking system. it will re - establish the normal functioning of monetary policy. it will de - segment financial markets and allow for normal private capital flows within the euro area. it will ultimately allow for a disengagement of the euro system from interbank and financial intermediation. moving decisively towards a banking union is one major contributing factor in reducing uncertainty and boosting confidence. conclusion : the ability of monetary policy to fight uncertainty uncertainty is a major cause of the current weak recovery. one may point to the paradox in the present environment characterised by very low interest rates, very large cash reserves in the hands of corporates, but very little investment. the good news is that a small spark could have huge effects. the bad news is that this spark has not occurred. monetary policy cannot by itself remove economic uncertainty. it can contribute to limiting and attenuating its effects. it is also essential that other sources of uncertainty be dealt with, especially when they stem from government policies. in the euro area, fiscal consolidation must continue and crisis management mechanisms must be made operational. in other countries, such as the united states and japan, future fiscal uncertainties must be eliminated. finally, stable regulatory regimes, first and foremost in the financial sector, are also essential. for its part, monetary policy must be predicable, not in the sense that each and every move of the monetary authorities be precisely anticipated, but rather, that their objectives be clear and their actions fully understandable by economic agents. strong, independent and responsible central banks are, more than ever, necessary to price and financial stability. bis central bankers ’ speeches