putting themselves in a position of vulnerability. this is, of course, our particular experience of the thorny question of monetary policy, debt and asset prices. like other central banks we have grappled with the question of what, if any, response monetary policy ought to make to this situation and, like others, we have not found that question amenable to a straightforward answer. on the one hand, these developments are exerting some expansionary impetus to the economy at a time when global demand conditions are weak. to that extent, they are helpful in avoiding undue weakness in the australian economy. on the other hand, the household sector ’ s ability to cope with some future contractionary shock is probably being impaired, at the margin, as leverage continues to increase. while we do not think that there would be any significant financial sector fragility as a direct result of this increased debt even if house prices were to fall in the near term, we fear that there could still be significant general economic fall out if the economy is subject to some other shock, mainly because household consumption could retreat quite quickly. dealing with all this is still very much a work in progress, but as i reflect on our own experience to date and that of others, a few observations come to mind. first, it is not very helpful to couch the discussion in terms of whether monetary policy should try to prick ‘ bubbles ’. this tends to side - track discussion on to questions like whether we can confidently identify, indeed even define, ‘ bubbles ’, and whether or not aggressive policy action is appropriate if we can. a more helpful way to set it out it is to think about the balance of risks facing the economy : is there something occurring which is increasingly likely to be a misalignment, a subsequent reversal of which could prove to be disruptive? and if so, is there some monetary policy course which, while possibly involving some short - run cost to economic activity, would reduce the risk of bigger loss of economic activity later? can we, to use the popular metaphor, buy some insurance and at what price? second, any response by monetary policy is bound to be relatively moderate, because the uncertainty about the effect of policy on the dynamics of asset prices is considerable. that means that asset prices are still likely to move quite a bit in these episodes. policy ’ s ability to smooth things out is limited ( which is something we already know as a general proposition anyway ). third, i am inclined

which are different to the past, and not being too wedded to particular empirical representations of the economy. we have to develop some notion of the economy ’ s behaviour - it ’ s not good enough to say we know nothing. but ‘ models ’ of the economy - whether of the formal or informal kind - need to be viewed as working hypotheses, continually open to amendment in the light of new experience. this holds as well for analytical constructs we commonly use, like output gaps, nairus, natural real interest rates and so on. it ’ s important to keep these devices in the realm of useful ways of organising our thinking, and to take care not to elevate numerical estimates of them to central status, lest a shift in relationships take policy - makers off course. the rba ’ s approach has been to do our best with various pieces of empirical research in these and other areas, and to allow them to inform our judgement about the outlook and policy, but not in any sense to be a substitute for that judgment. i ’ m sure that the same occurs in other central banks. provided we are mindful of these broad principles, and i think most central banks are, we should be able to cope with shifting economic structure acceptably well. and there is little to suggest that this sort it could be added that taking on board some of these sorts of change may involve being prepared on occasion to give some weight to judgement before all the empirical evidence is crystal clear - while recognising that you might be wrong and trying to weigh the costs of being wrong. a case in point would be the way us policy makers backed their judgement about higher trend productivity growth before it was all that clear in the official data. of ongoing evolution of economic structure poses greater problems for policy makers today that it has in the past. a different type of structural change has to do with the time series properties of the economy - in particular, the degree of variation from quarter to quarter. as we have heard at this conference, there seems to be reasonably clear evidence that, for many of the major countries, this variation diminished during the 1990s. this was also true in australia ’ s case, where the standard deviation of quarterly gdp growth in the 1990s was about one third lower than in the 1980s, and two thirds lower than in the 1970s. better policies, more flexible economies, and smaller shocks - that is, better luck - are all ( complementary ) explanations for this phenomenon. that is a