Implicitly, this also raises the question of whether and to what extent the current state of the innovation cycle challenges our understanding of what has changed over the last decade. -  and secondly, how financial innovation challenges the role of monetary analysis in monetary policymaking. I shall then conclude by a few words on the difficult task of communicating about monetary policy in times of financial stress. This is a concern that does not feature formally in our programme today but lurks in the background and I am sure many of us will have it in mind throughout the day. Challenges for our understanding of the MP transmission process An appropriate knowledge of the mechanisms through which monetary policy affects the economy is of crucial importance for central banks. Financial innovation affects these mechanisms both by altering the channels through which monetary policy operates and by changing the overall impact of monetary policy decisions. But the magnitude of the changes and the exact impact of financial innovation at a time when other factors such as globalisation are at work are not well known. Financial innovation certainly contributes to enhancing wealth effects and thus probably also to strengthening the interest rate channel. First, financial innovation fosters faster dissemination of information and its more rapid incorporation into financial market prices. This is of course particularly true for monetary policy decisions and can therefore increase the effectiveness of monetary policy via the interest rate channel.
To sum up, financial innovation is on the whole expected to have facilitated the job of monetary policymakers by accelerating the transmission of monetary impulses to the economy. However, in times of stress, when financial sophistication may have gone further and quicker than risk-management practice, the confidence crunch that may ensue paves the way to non-linear responses of the economy that seriously challenge our common understanding of how monetary policy impulses are transmitted to the economy. Challenges for our reliance on monetary indicators As you know, the Eurosystem’s monetary policy strategy assigns an important role to money, which is based on the premise that monetary developments provide valuable information on future inflation in the longer run. I would like to ground this with two reasons, a well-known stylised fact and a conjecture. The stylised fact first: there is ample statistical evidence, in the euro area and elsewhere, that low frequency movements in money growth are closely correlated with trend inflation, e.g. for frequencies corresponding to cycles of eight to ten years. The conjecture, then, brings us to an issue that will be tackled this afternoon, namely the flattening of the Phillips curve: changing inflation dynamics, which can partly be viewed as a consequence of a successful anchoring by credible monetary policies, tend to reduce the sensitivity of inflation to incipient imbalances in the economy.