income in net operating income rose significantly in 2006. for some lcbgs with sizeable capital market operations, the share of trading income accounted for nearly half of net operating income in 2006 and corresponded to more than 45 % of their tier 1 capital, as shown in the chart on the right of slide 10. special feature article a looks at the relationship between bank income diversity and systemic risk. it finds that a measure of systemic risk is positively correlated with bank size and the share of trading income, while it is negatively correlated with revenues from ( traditional ) interest income sources. euro area insurance sector in the euro area insurance sector, there was a broad - based improvement in profitability in 2006 ( see the chart on the left of slide 11 ). the positive assessment is further supported by the fact that the profitability of the weaker performers in 2005 also improved in 2006. underlying this improvement was a strengthening of investment income, mainly owing to buoyant stock markets and higher interest rates. moreover, favourable developments in the financial conditions of primary insurers and reinsurers in 2006, together with a greater focus on risk management and risk - adjusted prices, support a positive outlook for the euro area insurance sector as a whole. these positive developments continued to be priced into expected default frequencies ( as shown in the chart on the right of slide 11 ). however, risks and challenges for the sector remain, as greater financial market risks could pose a challenge to the life insurance and non - life insurance sectors. 5. triggering factors for the materialisation of risks and the exposure of vulnerabilities i will now consider some possible factors that could trigger the materialisation of certain risks and the exposure of identified vulnerabilities. an important issue highlighted in the fsr relates to the existing ample financial market liquidity and the prevailing very low risk premia. one possibility is that an abrupt and sharp increase in risk aversion and a loss of confidence could lead to a substantial reduction in financial market liquidity which, as stressed, is currently abundant. such a decline could expose several underlying vulnerabilities and trigger an adverse scenario which could involve : • funding liquidity challenges for highly leveraged financial institutions ; • unwinding of carry trades and possible unwinding of global imbalances ; • increasing credit spreads across the credit quality spectrum ; • increased asset price volatility in financial markets more generally ; and • reduced bank profitability as a result of lower trading revenues. a second adverse scenario could

area firms have so far not been under significant pressure to make substantial changes in their specialisation – particularly in medium - high - tech exports. but this general picture for the euro area does however not necessarily hold for all euro area countries. overall, there have been substantial differences in the export performance across individual countries. and euro area countries have witnessed significant differences in cost competitiveness since the launch of the euro. this explains why the ecb has always said that an appropriate peer surveillance of the evolution of competitiveness indicators, including cost competitiveness and unit labour costs was of the essence. 6 for more details, see di mauro and forster ( 2008 ), providing an update of the earlier analysis by baumann and di mauro ( 2007 ). see also ecb ( 2008 ), monitoring labour cost developments across euro area countries, monthly bulletin, november 2008, pages 69 - 85. 3. the internal dimension of european competitiveness this brings me naturally to the second part of my talk, the internal dimension of european competitiveness. understanding the causes of growing labour cost differentials or the cumulative increases in labour costs across euro area countries is very important for improving the adjustment process of countries within economic and monetary union. from an economist ’ s perspective, increases in unit labour costs stem from higher compensation per employee or lower productivity, or a combination of the two. in the case of the euro area, the main source of difference in recent years has been differences in the growth rates of compensation per employee, rather than differences in productivity growth. let ’ s look at the reasons behind these differences and the options that countries have to improve their situation. such analysis is particular important at this time. some countries may not only be affected by the global downturn and the financial crisis ; they may also need to adjust in order to undo domestic imbalances. i see four main developments which have arisen in the monetary union and which help to explain the observed differences in increases in labour costs in a number of euro area countries. • first, some countries might have entered the euro area at a moment where this overall cost competitiveness was clearly hampered for a number of reasons. germany offers a clear example of such an economy due to the strong increases of unit labour costs associated with the reunification. a lower level of increases in unit labour cost than the average of the euro area was advisable for such economies. • second, the opposite case has also been observed. some countries have entered the euro area in a position