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Turning to the monetary analysis, the annual growth rates of broad money and credit aggregates, while still remaining strong, continued to decline in September.

A closer examination of the money and credit data indicates that the recent intensification of financial tensions has already had an identifiable impact, particularly in the form of outflows from money market funds and greater inflows into overnight deposits. However, the full impact of investors' uncertainty on their portfolio allocation behaviour is still to be seen in the coming months.

Both portfolio shifts between non-monetary and monetary assets and shifts between different types of monetary assets can therefore not be ruled out in the period ahead. Hence, such effects will need to be taken into account when assessing monetary growth and its implications for price stability over the medium term.

There is also some evidence in the September data that the recent intensification of the financial tensions has triggered a slower provision of bank credit to euro area residents, mostly taking the form of smaller holdings of securities. At the same time, for the euro area as a whole, up to September there were no indications of a drying-up in the availability of bank loans to households and non-financial corporations.

In particular, the maturity composition of loans suggests that non-financial corporations continued to obtain funding, also at relatively long maturities. However, more data and further analysis are necessary to form a robust judgement.

To sum up, the intensification and broadening of the financial market turmoil is likely to dampen global and euro area demand for a rather protracted period of time. In such an environment, taking into account the strong fall in commodity prices over recent months, price, cost and wage pressures in the euro area should also moderate.

At the same time, a cross-check of the outcome of the economic analysis with that of the monetary analysis confirms that the underlying pace of monetary expansion has remained strong but has continued to show further signs of deceleration. Hence, when taking all information and analysis into account, there is a further alleviation of upside risks to price stability at the policy-relevant medium-term horizon, even though they have not disappeared completely.

At this juncture, it is therefore crucial that all parties, including public authorities, price-setters and social partners, fully live up to their responsibilities. The level of uncertainty stemming from financial market developments remains extraordinarily high and exceptional challenges lie ahead. We expect the banking sector to make its contribution to restore confidence.

The Governing Council will continue to keep inflation expectations firmly anchored in line with its medium-term objective. In so doing, it supports sustainable growth and employment and contributes to financial stability. Accordingly, we will continue to monitor very closely all developments over the period ahead.

In the area of fiscal policy, medium-term challenges, such as population ageing, strongly underline the need for fiscal policy to focus on medium-term sustainability and thereby build confidence. Accordingly, and as recently confirmed by the ECOFIN Council and the European Council, the fiscal policy provisions of the Maastricht Treaty and the Stability and Growth Pact should continue to be applied fully.

The fiscal rules are one of the indispensable pillars of EMU and the single currency, which must remain firmly in place so as not to undermine the confidence in fiscal sustainability. Finally, the current situation calls for ensuring the high quality and timeliness of statistical information on government interventions to ensure the transparent and accountable use of public funds.

Turning to structural policies, the ongoing period of weak economic activity and high uncertainty about the economic outlook will require a significant degree of resilience from the euro area economy. The current situation should therefore be seen as a catalyst to foster the implementation of necessary domestic reforms so that countries may fully exploit the benefits offered by the enhancement of international trade and market integration, in line with the principle of an open market economy with free competition.

   DJG/hab 
 

(END) Dow Jones Newswires

November 06, 2008 09:00 ET (14:00 GMT)

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