mr. hannoun discusses the operational framework for emu and the challenge of managing price stability speech by the deputy governor of the banque de france, mr. herve hannoun, at the financial times european economic and monetary union conference in london on 20 / 11 / 97. i am delighted to take part in this discussion on the framework for the single monetary policy in stage three. i will address what i consider to be the two main categories of issues in this context : those related to monetary policy strategy on the one hand, and those related to the execution of monetary policy operations on the other hand ; in other words, strategic and operational issues. 1. strategic issues what are the main strategic issues relating to the formulation of the single monetary policy? i will consider in turn : • the final objective, • the intermediate target, • the role of the exchange rate as an indicator, and • the starting level of interest rates in the euro area at the end of next year. 1. 1. final objective : a quantified definition of price stability the final objective of the single monetary policy is clearly stated in the maastricht treaty : according to article 105, “ the primary objective of the escb shall be to maintain price stability ”. only a monetary policy geared towards the objective of price stability can create the conditions for durable and sustainable growth. to reach this objective, three conditions need, in my view, to be fulfilled : • firstly, the monetary strategy should be set in a medium - term framework. more generally, the european policy mix should consist both of a medium - term stability - oriented monetary policy and of a medium - term fiscal policy aiming at a balanced budget ( or “ close to balance ” as stated in the stability pact ). 1 this medium - term stability - oriented policy mix is the best we can do to create the conditions for durable growth in the euro area. and it is now widely agreed in the european union that the policy mix should not give the illusion that it can fine tune the economy ; 1 by urging governments to aim for a fiscal position close to balance or in surplus in the medium term, the stability pact enables them to let automatic fiscal stabilizers come into play during recessions without exceeding the 3 % reference value. in short, it allows them to create a fiscal buffer during normal economic periods that can be drawn on if an asymmetric shock occurs. • secondly, the strategy pursued should provide a clear anchor to inflation expectations. this

implies the public announcement of a quantified definition of the final objective of price stability ; for instance, the banque de france aims at an inflation rate not exceeding 2 % ; • thirdly, the strategy should be based on a forward - looking approach. this is because the transmission of monetary policy decisions to the economy takes place with relatively long lags. estimates of these lags between interest rate changes and their effects on inflation vary between one and two years. as a consequence, central banks have to look ahead before they take monetary policy decisions. a case in point was the recent decision by several continental central banks, including the banque de france, to raise their main refinancing rates on 9th october. this move was justified by the need to pre - empt inflationary pressures early enough, although current inflation remained low. in my view it is very important to make the public aware of the concept of the “ pre - emptive strike ”, which is at the heart of central banking. 1. 2. intermediate target : more arguments in favour of monetary targeting, with a caveat in order to provide an anchor to inflation expectations and to look ahead, central banks make public an intermediate target which they commit themselves to respecting. announcing an intermediate target also enhances the accountability of the central bank. this is why article 12 of the statute of the ecb explicitly refers to decisions relating to intermediate monetary objectives as one of the main responsibilities of the governing council of the ecb. two possible strategies have been selected by the emi council as potential candidates to be recommended to the ecb, namely monetary targeting and direct inflation targeting. 2 in the case of direct inflation targeting, the inflation forecast made by the central bank can be viewed as fulfilling the role of the intermediate target. 3 let me dwell a moment on the choice the ecb will have to make between direct inflation targeting and monetary targeting, unless it chooses to combine elements of both strategies. inflation targeting stresses the responsibility of the escb for achieving and maintaining price stability. however, there are some difficulties in the process of forecasting inflation over the medium and longer term. as mervyn king recently stated, “ such a forecast cannot be a single number. it must be presented for what it is, namely a probability distribution ”. 4 furthermore, inflation targeting could imply more formal cooperation with the government since the latter is in a position to influence price developments. finally, inflation targeting has admittedly proven useful in progressing towards price stability, as