This development was seen by the MPC to pose a potential threat to inflation through its possible impact on the exchange rate, should the deficit be regarded as unsustainable. Nevertheless, these deficits were adequately financed by capital inflows. The sustained strong domestic demand, combined with threats posed by international oil prices, food prices, and exchange rate developments, increased the risk to the inflation outlook.
It is no coincidence, therefore, that the champion of the new economy, the United States, achieved its greatest advances in an era of low inflation. A third issue, crucial for monetary policymakers, is the question of how to react to the new economy. Let me simplify matters by conceptualising the new economy as a shock to productivity.