##atility are higher than at point b. we can see now how improvements in monetary policy might account for the great moderation, even in the absence of any change in the structure of the economy or in the underlying shocks. improvements in the policy framework, in policy implementation, or in the policymakers ’ understanding of the economy could allow the economy to move from the inefficient point a to the efficient point b, where the volatility of both inflation and output are more moderate. figure 1 can also be used to depict a second possible explanation for the great moderation, which is that, rather than monetary policy having improved, the underlying economic environment may have become more stable. changes in the structure of the economy that increased its resilience to shocks or reductions in the variance of the shocks themselves would improve the volatility tradeoff faced by policymakers. in figure 1, we can imagine now that the true taylor curve in the 1970s is given by the dashed curve, tc1, and the actual economic outcome chosen by policymakers is point a, which lies on tc1. improved economic stability in the 1980s and 1990s, whether arising from structural change or good luck, can be represented by a shift of the taylor curve from tc1 to tc2, and the new economic outcome as determined by policy is point b. relative to tc1, the taylor curve tc2 represents economic outcomes with lower volatility in output for any given volatility of inflation, and vice versa. according to the “ shifting taylor curve ” explanation, the great moderation resulted not from improved practice of monetary policy ( which has always been as effective as possible, given the strictly speaking, according to standard models, policymakers face a tradeoff between volatility of inflation and volatility of the output gap, the difference between potential output and actual output. if the economy ’ s potential output grows relatively smoothly, variability in the output gap will be closely related to variability in actual output. chatterjee ( 2002 ) provides an overview of the taylor curve and its implications. for an exposition by taylor himself, see taylor ( 1998 ). the policy tradeoff between the variability of inflation and the variability of output implied by the taylor curve is reminiscent of an older proposition, that policymakers could achieve a permanently higher level of output ( and thus a permanently lower level of unemployment ) by accepting a permanently higher level of inflation. however, for both theoretical and empirical reasons, this older idea of a long

andreas dombret : how to overcome fragmentation in the european financial market speech by dr andreas dombret, member of the executive board of the deutsche bundesbank, at the 23rd european banking congress, frankfurt am main, 22 november 2013. * * * introduction ladies and gentlemen, it is a pleasure for me to share some thoughts with you on the subsequent discussion of how to overcome fragmentation in the european financial markets. when introducing a panel discussion, a sensible piece of advice is always to be briefer than anybody dared hope. i intend to follow this recommendation and will therefore limit my introductory remarks to no more than 15 minutes. allow me to talk about four aspects that we at the bundesbank consider of particular importance when thinking about fragmentation within european monetary union. first of all, let me note that diagnosing financial fragmentation requires normative judgement. moreover, fragmentation is, to some extent, natural. it reflects structural differences between national markets, which are not bad per se. second, let me share my thoughts on fragmentation and its implications in a monetary union. and third, we also need to look at supervision when talking about fragmentation and its roots. i will argue why the european banking union, in the bundesbank ’ s view, is an important step towards a more integrated european financial market. finally, let me briefly touch upon the issue of fragmentation in the real economy. financial market fragmentation : a bad thing or to some degree natural? let me come to my first point : the reasons for fragmentation. the most obvious source of financial market fragmentation is the existence of different currencies. as we all know, in the euro area this source of fragmentation was eliminated by the introduction of the euro. but even before 1999 there were various political initiatives with the objective of overcoming market fragmentation in europe. most notably, let me mention the eu ’ s internal market, which guarantees free movement of goods, capital, services, and employees. nevertheless, financial market fragmentation within the euro area has been discussed in quite some depth over the past few years. probably most observers would agree that financial markets in today ’ s european monetary union are still segmented or fragmented – especially when compared with the situation before the crisis. but diagnosing financial fragmentation is by no means a purely technical exercise with a clear result. in the end, it requires a normative judgement, offering answers to questions such as : which differences are well - founded and therefore justified? which differences are not well - founded and, hence