C. Peter McColough Roundtable Series on International Economics: A Conversation with Jean-Claude Trichet

Council on Foreign Relations

WILLIAM J. MCDONOUGH: Ladies and gentlemen, good evening. Welcome to the Council on Foreign Relations meeting. This meeting is part of the C. Peter McColough Series on International Economics. The series is sponsored by the council’s corporate program and by the Maurice R.—also known as Hank—Greenberg Center for Geoeconomic Studies. I would like to remind the audience that, unusual for our proceedings, this meeting is on the record. Please remember to turn off your cell phones, BlackBerrys, other wireless devices, because anybody who lets one go off dies and goes immediately to hell. (Laughter.) This is a very serious sort of place, the Council on Foreign Relations. We have the very good fortune to have with us today a person who is rare in not just being a great central banker, which he certainly is, but having that very rare quality of understanding geopolitics at least as well as he does geoeconomics. In the very complicated world in which we live, purely economic answers and purely political answers don’t work. What we need are a combination of those two to bring together wisdom and knowledge in policy that is best for the citizens of all of our countries. Jean-Claude Trichet has the wonderful quality of having been born a Breton. Now, a Breton is a Celt. I’m Irish. I’m Celt. One of the reasons that Jean-Claude and I have cooperated very well over the years is that we speak three languages: French, English and now a bit of Celtic when we can’t get through in any other language. He is the finest product of the French tradition of coming up through a superb university system, a graduate of the Ecole nationale d’administration and became the director of the treasury, one of the most demanding positions in the French government. It is the second position in the Ministry of the Treasury—the Ministry of Finance. He became the governor of the Banque de France, and when people were looking for the perfect candidate to be the president of the European Central Bank, who else could one pick but a brilliant French Celt.

I give you my dear friend Jean-Claude Trichet. (Applause.)

JEAN-CLAUDE TRICHET: Thank you very much indeed. It’s such a pleasure to be invited by the Council on Foreign Relations and such a pleasure to be introduced by you. You are always much too flattering, and I only mention—(inaudible)—to all the audience that this is—(inaudible)—probably. But again, it’s too flattering.

Let me perhaps say a few words on structural reforms in the euro area, which I consider probably one of the main message, if not the main message, of the ECB. Let me perhaps start with a brief assessment of the euro area’s economic performance by recording a few facts. Not all the facts are negative, if I may, and you will forgive me if I say that we have really over the last years witnessed an improvement in the utilization of labor, which increased the leverage by 0.2 percent per year between 2000 and 2004. It has reflected the rise in the euro area employment rate, which came from 61.5 percent to 63.3 percent—of course, much lower than in the U.S., but nevertheless the derivative goes, if I may, in the right direction. And we have been also the witness of a significant decline in the aggregate unemployment rate from 10.5 percent to 8.6 percent. I have to mention that because one has to be fair—I will insist—because it is what we trust on a number of points, which are not positive and where we have to work a lot. But I wanted at the beginning to mention that we had also some figures that were a little bit more flattering.

And I have also to mention that employment growth in the EU area during this period showed resilience to the economic slowdown at the beginning of the decade, with an increase of employment, which was a little bit—a little bit—faster than in the United States of America. But of course, I (correct ?) immediately that in mentioning the fact that unemployment remains, of course, in Europe, in the Euro area at a level which is very, very high and unacceptable in the medium and long run.

Now, let me stress particularly the main problem that we have in Europe in comparison with the U.S. over the recent period of time, and certainly since the years ’95, ’96, which by a number of indicators seems to have been turning points—turning years—both I would say in the U.S. and in Europe. But unfortunately for the Europeans, when the turning point was for the best in the U.S. from the labor productivity and growth potential standpoint, on the other side of the Atlantic—my side of the Atlantic—we had observed exactly the reverse phenomena. And I would like perhaps to give you some figures that are certainly of the essence in this respect, and probably one other main problem in terms of comparison between both sides of the Atlantic.

I have to mention the fact that in the ’80s in terms of productivity, we had a hourly—output per hour worked on our side of the Atlantic, which was yearly around 2.5 percent, when in the U.S. it was around 1.3 percent. And so we were catching up at that time. Our growth potential was reflecting this very rapid increase in labor productivity, and this, of course, permitted us progressively to catch up the U.S. in terms of labor productivity and, as I said, in terms of growth potential. But since the ’90s and the beginning of the present decade, we are the witness of something which goes totally in the other direction. And to take the figures that we have observed in the aggregate period, which goes from ’95, ’96 up to now—of course, it depends on the various indicators concerned—but I would say that in that appropriate order of magnitude would be that as an average during that period, the U.S. has been around 2.5 (percent) when we ourselves have been around 1.2 (percent). So that we have exchanged literally our labor productivity increases as an average—the yearly increases. This is something which we are working a lot on, and which deserve, let’s say, the attention of the European to understand better, not only why the U.S. have picked up substantially—this is something, of course, that has been studied a lot, and I would say that there now is a consensus to consider that two factors have been decisive in the U.S. One is the fact that the U.S. has a specialization in IT, and that in this IT production sector, the relative weight of the sector in the U.S. economy permitted to deliver very, very impressive labor productivity progress and total productivity progress, because it’s precisely the sector where you are registering the most rapid changes in technology and in productivity. But what was probably decisive in the case of the U.S. was that the sector that we (are not ?) productive sector in terms of IT, but utilizing IT has been wonderfully efficient in utilizing IT. And across the board, all these sectors—and particularly the service sector, and amongst the service sector particularly retail sector and the financial services have been, I have to say, very, very impressive in delivering a totally different labor productivity progress since the ’95, ’96 than was the case before. Now this is fully documented. It was not obvious at the very beginning, and of course, we had to wait a little bit to see whether it was sustainable or not. Until now, it appears that it is reasonably sustainable and that it has helped considerably the U.S. economy.

On our side of the Atlantic, we have, as I said, observed a reverse phenomenon. Not only we didn’t take advantage of this new phenomenon that was associated with the IT revolution, not only were we handicapped because we have a specialization in IT, which is less pronounced than in the U.S. case, but we had also—and this is something which remains a puzzle in many respects—we had absolutely no jump in the productivity progress in the IT utilization sector, and particularly in the service sector. On the contrary, I must confess that we have the feeling that in the service sector in particular what we are observing since ’95, ’96—but it has been a progressive and very, I would say in some respect, linear evolution from the ’80s up to now—we see a progressive diminishing of labor productivity progress. And then, of course, we are at the part of our own analysis. We consider that what has happened in this respect is certainly associated with the difference of flexibility that we are observing on both sides of the Atlantic. Whether you look at the labor market or at the goods and services market or at the financial market, it is clear that we are, for a number of reasons—some are explainable, others have to be really studied very, very carefully—we are lagging behind.

I do not mean, again, that there are all liabilities in Europe and assets in the U.S. It wouldn’t be true. And all those who are here know pretty well that homework has to be done, and I will go back to that. In all constituencies in the world, and certainly on both sides of the Atlantic and also in Asia, there is no doubt in that. But is true that when we are balanced in terms of investment and savings in the euro area and in Europe as a whole, we have this handicap of absence of sufficient flexibility. I will mention the absence of flexibility in the—(inaudible)—issue. And I would say that in Europe in this domain, as in many other, there is a consensus to consider that we must move in the direction of more flexibility. That consensus exists in the commission constituency—you know, the role of the commission in Europe. We trust ourselves in the ECB that it is one of the major issue that we have to cope with, and it is fully accepted by the executive branches. The council, which is the (collage ?) of executive branches in Europe, has fully accepted that the labor market was not functioning correctly, that a lot of improvement and structural reforms had to be delivered. It’s been stated in the so-called Lisbon program, which was devised and accepted by all parties concerned, and decided by the council—the (collage ?) of the governments. The problem in that domain, as in many other, is implementation. The diagnosis is very clear. The measures that should be taken are very clear. The problem is, again, to deliver and to deliver in a fashion which would be efficient, accepted by public opinion and by the people of Europe. And then you know pretty well that there are difficulties, and I have to confess that we had recent examples of those difficulties which are real. I will go back to that because it seems to me that in that domain one of our major problem is precisely explanation, pedagogy, tireless explanation to the people of Europe that we would all be better off had we a labor market which would be as flexible as the flexibility of the labor market in the economies that has succeeded in combating mass unemployment. And we have example. I have not necessarily to pick up the example of the U.S. or of the economy that are on this side of the Atlantic—Canada and others. But even in Europe, those of us that have delivered the structural flexibility that is required—(inaudible)—domain are success stories. And I would mention, certainly I hope, my dear Bill—I see to which extent you do not forget ( Ireland ?), but it is a whole model undoubtedly—one of the whole model that we have in the euro area. I could also mention other economies on the euro area of de facto in the euro area. I could mention Denmark, which is de facto in the euro area and has so remarkable successes and others.

The common denominator between all of these economies is that they have flexible market, and that in the eyes of the corporate businesses, in the eyes of the various enterprises and entrepreneur, the labor market is extremely flexible. So they can adapt permanently to the new circumstances. It is not necessarily the same model in terms of social protection, but in the eyes of the enterprises the flexibility is there, and it is the reason of the success. So again, that is a major point, and we will never forget ourselves to make the point to all our partners that whatever they choose as a model for social protection, for handling the difficulty that might come out of the restructuring and reshaping of the (private ?) sector, if we want to eliminate mass unemployment we have to accept the kind of flexibility that is required by the present circumstances in a world which is changing very rapidly.

Let me now say a word on the markets of goods and services. And I would say that in this domain, we can say that we made some progress as regards the completion of the single market in the domain of goods. Tradable goods, frankly speaking, are a market where we improved a lot, and to the extent that the single market with a single currency creates an environment, if I may, an economic environment of 313 million people—don’t forget that we are issuing a currency, a single currency for 313 million people. And for that area, single market with a single currency in the domain of tradable goods, we can improve a lot yet. We have areas where we would consider that the single market is not fully achieved. There are differences in regulation that are remaining differences that we should eliminate as was decided when we started the single-market endeavor—mid-’80s. We had also a number of difficulties that remain in the side of taxation. We have differences of taxation from such things car industry, which are creating segmentation of market for artificial reasons, and we had to eliminate that. So there is a number of domain where we still have a lot of progress to make, but I consider that in these domain we have advanced a lot.

In the area of the services, we really have big problem. And then I would only mention the fact that there is a lot of resistance in Europe to achieve the single market in the domain of services. Perhaps you have had some (echo ?) of this resistance. It seems to us, of course, absolutely unacceptable when you’ve had a sector which presents 70 percent of the GDP in Europe and 80 percent of the GDP on this side of the Atlantic not to treat it as, I would say, forcefully as possible to permit exactly the same kind of benefits one is expecting from a single market. So there we have a lot of things to do. And I must confess that I was myself struck by what research has demonstrated and is demonstrating when you look at the functioning of our own market of services in comparison with the U.S. I will give you only two examples that strike me very much. When you look, for instance, at the frequency of changes of prices, you see that for all prices in both economy—euro area on the one hand and the U.S. on the other hand—the frequency of changes of prices up or down is twice as big in the U.S. as in Europe. You’ll have as an average changes of prices every, I would say, something like five-months-and-a-half in the U.S. when it is 11 months in Europe. And it is even much more important as a difference when you look at the services sector—of course, merchant services sector—where the difference is practically one to three.

So that is one of the element which is fully now documented and substantiated, which demonstrates that we are far from the level of flexibility and capacity to adapt to various and changing circumstances that is the mark of a very flexible economy. But for us, it is clearly because we did not achieve yet the single market of services, which should be clearly, in our opinion, a major goal. And when I sum up what we are recommending to the European in this domain, I say labor flexibility, services—single market of services achievement as the two major goals.

Of course, we have also in the program of Lisbon, which again has been accepted by all governments in 2000 and accepted as a major, major endeavor to be relaunched in the most recent period of time under the pressure of the commission and the pressure of the successive presidency of Europe, and we backed this endeavor very, very strongly ourselves. So it’s been relaunched, the idea having been to not only insist on growth and job creation as being the two major consequences of this relaunching, but also to insist a lot—which was at the start of the endeavor—on the R&D and research and development. And there also I have to say that we certainly are convinced that we should—we should change very, very drastically our own way of looking at it.

Again, I will give you some figures that are a little bit striking. When I look at the spending in the domain of R&D, I am struck by the fact that we have a goal of going up to 3 percent of the GDP. The U.S.—in our own computation against methodology can differ, but I refer to a common methodology—the U.S. spends 2.8 percent of the GDP in R&D in our own computation. We are at the level of 1.9 percent, so that makes a big difference. We have a goal to achieve 3 percent in 2010. I consider that probably the figures themselves to be taken with a grain of salt because we have certainly not only a computative problem, but qualitative problem. It’s absolutely clear that it is the private sector R&D which is likely more in Europe, and it would certainly be a mistake to embark into large increases in public R&D where the problem of the link and the channeling of the public research to the private research remains one of our main—major problem.

But I could also tell you something which we all consider in Europe as to be corrected. It is the annual expenditure on higher education institutions, and they also have the figures that are very, very striking. The spending per student in the United States was 22,234 U.S. dollar—forgive me the precision of the figure—in 2005, while in our side of the Atlantic, the equivalent in U.S. dollar was 9,200; so less than half for higher education institutions spendings per student. It’s a differential which is very, very big, and which is not, again, sustainable, not acceptable.

Again, I would say let’s beware of pure quantitative comparison. You have perhaps a number of reasons why the figures are so largely different, but we know that on top of the quantitative comparison, there is a qualitative element there. It’s much more easy for universities, as you know, to inflate their research, their human capital, in the private productive economy in the U.S.—the culture is fully prepared and even fosters such moves—when on our side of the Atlantic, obviously, we have still a lot of resistance, a lot of problems which we have to cope with, and the sentiment that it is not necessarily appropriate when the private economy is really badly in need of this human capital and of this research to deliver it. Again, the control problem that we have in this respect in a number of countries has to be considered as one of the major issue at stake. As you see, we have computative problem and we have also control problem and qualitative problems.

The relaunching of the Lisbon strategy, which has been, again, decided by the European, has also been based upon the idea that perhaps we were too abstract when we started to think in 2000, and that we have to be closer to the reality. And the reality, as I said, is that we have a full agreement on the diagnosis, and not a full agreement on implementation; far from that, an immense problem of implementation. So what has been decided has been to embark on a re-nationalization, if I may, of the structural reforms in order to be sure that each particular country embarks on the appropriate ownership of its own reform under a peer’s surveillance and under the surveillance of the commission. We will see what is delivered by this new concept. I trust that it is big improvement in comparison with what we’ve been doing over the last five years. But we know, again, that it’s really a major, major problem.

And if you permit me, I would say that this problem, which is that we have a large consensus on what should be done on the diagnosis—even on the measures and the recipes that are at stake—at the level of Europe, we have exactly the same problem, if I may, at the level of the world. We have a nice, full consensus on the diagnosis. We fully agree—and the last G-7 has been very, very clear, I have to say, perhaps clearer than ever—on the fact that we all agree on what should be done at the global level and at the level of each particular partner, continent, countries concerned. Whether it is the U.S., whether it is Europe, whether it is emerging Asia and others, full agreement on the diagnosis. And it is reinforced, I would say, by the most recent meetings, but till now very poor level of implementation.

I mentioned structural reforms in Europe. It’s clear that it is part of the global diagnosis. The global diagnosis is that the contribution of Europe for a better world, for preventing the risks that exist today—particularly as regards global imbalances—is to embark into the progressive elevation of its growth potential is exactly along the line I just suggested. As you know, as I have been mentioning, the delivery is still not satisfactory, and has to be much more satisfactory in the years to come. Exactly the same, if I may, in the U.S.

that will be prudent in this respect, but it seems to me that we have full, full accord on the fact that there is big problem of fiscal (de-savings ?), big problem of household poor savings. These are calling for changes, and I would say in this domain, too, we are expecting implementation. Implementation is the absolute key word, I would say. (Inaudible)—in this domain.

And the same, if I may, in Japan as regard the structural reforms and the boosting of the domestic demand. And the same in Asia, where we are also very clear that we must have an increasing dynamism of domestic demand, and the orderly and appropriate changes in the exchange rate. And I’m not speaking of China alone; I’m speaking of the full body of the emerging Asia, which is more or less in the same situation.

So we all agree on that, if I may. The problem is delivery, implementation. And in this respect, I think it was very good move of the various Gs, to which I recently participated—the G-7 as well as the IFMC and the other meetings—to put the IMF much more than before at the heart of this delivery process through reinforced surveillance. We know that it is difficult to deliver. We know that we should not neglect any additional mean to facilitate this delivery. This is one of the mean which I’m very happy that we could agree upon in Washington.

Thank you very much for your attention. (Applause.)

MCDONOUGH: Well, thank you very much, Jean-Claude. Not only have you demonstrated your ability to balance the geopolitical and the geoeconomic, but after a stunningly frank description of the problems of Europe leaving some of us to wonder, does he know about the savings imbalance in the United States? You hit that very hard as well, and the grin for all of you on Pete Peterson’s face is about this wide. (Laughter.)

Now, let us go to the part of our conference where it will be your opportunity to ask questions. You note that I say ask questions. You will recall that the methodology is you stand, I recognize you, you receive the microphone, you say what your name is, with which organization you are affiliated. And then there is a short period, and at the end there is an upward inflection—(laughter)—indicating a question. Only one speech is permitted, and it’s a wonderful one and it’s been given. (Laughter.)

Who would like to go first? Yes, sir. Right here in the—there you are.

QUESTIONER: I’m Larry McQuade from River Capital.

The question I have is, you refer to Europe-wide. If you broke it down into the component countries, would you find radical differences that are serious, and do we have specific problems with specific countries?

TRICHET: First of all, as you very rightly say, we are looking ourselves in the ECB, in the government banks of the ECB, and at Europe—at the euro area as a whole. There are 313 million citizens—(inaudible)—citizen as a whole, exactly like Ben Bernanke and colleagues in your Open Market Committee meeting are not looking particularly to California or Massachusetts or Florida, but at the full body of the U.S. economy. And as you know, there are major differences from country to country and state to state.

And only to substantiate a little bit what I say, we were very interested in measuring the standard deviation of a number of parameters in Europe, in the euro area, to compare with the U.S.—for instance, inflation; for instance, growth; and a number of others. And we were impressed by the fact that there were a lot of similarities—and some differences, but similarities. Standard deviation are approximately the same in the U.S. and in the euro area because the U.S.

itself is breathing largely from state to state. And growth also we have approximately the same standard deviation, which is also quite—I have to say, quite impressive. But we have—and this is perhaps the mark of the European economy—a persistence of differences which is superior in Europe to what is observed in the U.S., and it calls for appropriate understanding, appropriate research, and I would say appropriate action.

And I would particularly mention one observation that we made, which is good, but calls for action. We have discovered after several years of functioning of the euro area that the relative competitiveness of the various economies in the euro area could change much more than was foreseen. You know, the common wisdom before the euro was you enter into a single currency area, you are freezing the relative competitiveness because no realignment will be possible. And so let’s be very, very cautious because then we are freezing competitiveness forever. What we are observing is that it doesn’t function like that. The real competitiveness are changing quite rapidly.

To give you only the example of Germany, Germany, over the seven years, could regain through unique labor costs moving less rapidly than the average, more than one point per year of relative cost competitiveness in comparison with the average of the euro area, which is good because they entered with a loss of competitiveness which would have been associated with the reunification. So it can move up or down.

Of course, it’s much more flexible than was foreseen. It functions in both direction. And it goes, of course, for prudence, and I would say also for lucidity and peer surveillance, when you are losing competitiveness, and you should be aware of the fact that you must oscillate, if I may, around the trend in the euro area over the medium and long term.

MCDONOUGH: En passant, as some of us say, the Germans have about a 3 percent of GDP current account surplus, mainly in the—(inaudible)—mainly in the trade area of very high quality, high-value-added machine products. So it’s an excellent indication of the ability of a country to readjust its competitiveness, at least in that area.

Next question. Yes, sir, right here.

QUESTIONER: Tom Russo, Lehman Brothers.

The question is you mentioned the trade imbalance. I was wondering, how serious do you consider this in the United States? And the second part would be, what do you think should be done about it? What’s within the control of the United States to do something about it?

TRICHET: As I said, we certainly consider this as one of the risk that we have at a global level. I always myself, when listing the risks that we see—I mentioned the price of oil. I mentioned the global imbalances if they are disorderly and (wending ?). I mentioned the—perhaps the under-pricing of risk that we have presently at the global level in global finance if there is a disorderly transition to an appreciation of risk, which would be perhaps closer to the real risk. And I mentioned protectionism.

Now, to concentrate on global imbalances, it was one of our major meditation in Washington. We have produced in the G-7 a full page to explain this strategy as we see it, and as I said, each partner has homework to do. There is a full agreement of the U.S. executive branch on what should be done in this summing up of the situation to participate in the correction of the global imbalances, taking into account the fact that a cooperative approach would certainly put the global economy in much better shape. And I would say that my working assumption is that we will deliver, but as I said, implementation is the key word. And I expect that we will be, I would say, equipped to convince yourself, perhaps, that we are progressively and orderly delivering when the derivatives will change their fines; namely, when we will see the various—the constellation of imbalances reducing progressively. I would say the fact that they would reduce dramatically is not the problem. The problem is to act sufficiently efficiency for the signs of the derivative to change, if I may.

MCDONOUGH: Yes, sir.

QUESTIONER: Mr. Trichet, Eric Winograd from Drake Management.

You’ve spoken about the evolution of productivity growth in the euro area. Could you perhaps flesh out that discussion a bit by adding your analysis about the evolution of potential growth in the euro area and how that evolution has played into and will play into the Governing Council’s assessment of monetary policy?

TRICHET: In the speech, you might have seen that I had got out of my speech to facilitate communication and not to be too boring. But the speech is good, if I may—(laughter)—and you will see that I mentioned some figures in this respect. We consider in the cards that we could improve the growth potential of the euro area by at least 0.75 percent in comparison with the present analysis that we are making on the growth potential. I’m not referring to only to the ECB itself and the research of the ECB, but it seems to me that there is a large consensus by international institutions to consider that anywhere between 2 (percent) and 2.5 (percent), and that at the moment of speaking we are much closer to 2 (percent) than to the upper side of this range. And (it refer ?) by reference to the present level that we are observing, which is probably above 2 (percent), but close to 2 (percent). I would say that at least 0.75 percent would be, as I said, in the cards if we deliver the reform that I have been mentioning on both the employment rate, on the labor market flexibility, and permitting this kind of labor—(inaudible)—(progress ?) that are of the essence.

When you look at the fact that we were at 2.5 (percent), went down to approximately 1.2 (percent) presently, while the U.S. was at 1.3 (percent) and went up to 2.5 (percent), even in the most recent figures even 2.8 (percent), it means that we have room for maneuvering. There is no doubt that we have room for maneuvering, and perhaps this 0.75 percent is a number assessment of what we could do. But again, what is absolutely necessary—and back to the key word—implementation. If we implement the reforms that have been pretty well identified, we could really elevate the growth potential of Europe, which is overdue.

MCDONOUGH: Thank you. The gentleman on the aisle towards the rear. Yes, sir. QUESTIONER: My name is Olin Robison of the Salzburg Seminar and Middlebury College.

I was especially interested that you included education, which I took to mean higher education, in your speech. I’ve spent a great deal of time on this subject. I see the differences as being truly profound. The American educational marketplace is highly competitive, the European is generally not. Would you elaborate on how you and your colleagues are thinking about this? And what is it that you think about it? What is the potential? In Europe, education generally is notoriously resistant to productive change, so—

MCDONOUGH: Said a teacher. (Laughter.)

TRICHET: You are right to identify these issues as a major one. I must confess that in this domain, it’s only recently that the European have realized that they have in this domain a very significant handicap. They thought that having had the best universities at the beginning of the—(inaudible)—with Bologna and—(laughter)—(inaudible)—and, of course—(inaudible)—Cambridge and all the like—(inaudible)—and so forth, there was a tradition of excellence, and a tradition of excellence in the university and various schools that were still there. And it is true that the potential is enormous, but there also the fact competition is not organized correctly, that a world of excellence is not organized correctly, is playing an important role. Also the fact that, as I mentioned, the attention of the full body of the society to the appropriate level of efforts, including spending in this domain of excellence—excellent education—again is really a new discovery. I would say only a few years ago the European have been aware of the fact that they were really making much less efforts than the U.S. in this domain. So progress are being made in this domain and all others, and I don’t want to be misunderstood. We have a glass in Europe in terms of structural reforms. The glass is half empty, and I insist on the fact that it is half empty. It would be unfair but to mention that we have done a certain level of work. I’ve mentioned the fact that, in terms of job creation, we have been perhaps more successful than has been fully recognized as seen from New York or Washington. And I have to mention that also, but it is also absolutely true that this is one of the domain where we did quite poorly till now, quite poorly. And it is certainly a domain where implementation is much more important than in any others.

The structure of the U.S. universities is such that you have a level of competition. I know that because my brother-in-law has been professor in—(inaudible)—St. Louis, Missouri, and I know in which universe he was placed. Of course, it’s totally different from the universe of a German professor or a French professor and perhaps of an Italian professor. And so we have again to reflect. We cannot overnight change drastically the areas where you are very—(chuckles)—right in saying that there is a certain level of inertia, but we have to change the situation, and it is the strong belief of the ECB.

MCDONOUGH: The gentleman on the on the aisle.

Q John Beattie (ph) from UBS.

Last week, the European Central Bank signed an agreement to provide advice to six Gulf states towards achieving monetary union I believe in 2010. The six states right now, even judging by the convergence criteria of the Maastricht Treaty, are relatively similar as they are all oil-dependent. But as some of the states diversify away from oil to other areas—like for example, Qatar or United Arab Emirates—I wonder, would a one-size-fit-all monetary policy be appropriate?

TRICHET: It is not our responsibility. It is their responsibility to see what is appropriate for them.

We have expressed availability to exchange experience with all the friends all over the world that are envisaging, entertaining the—or only looking at the idea of having a much closer monetary arrangement, a mechanism or even a single currency. We have expressed this availability to friends in Africa, to friends in Asia, and to friends in the Middle East. We consider our technical cooperation as purely technical, and there is certainly, of course, elements that are of a different nature.

What we do is really to demonstrate what we have been doing ourselves. You might remember that also in our case, coming from this capital city of markets and finance, very often the remark on whether one size fits all would be appropriate was very often made, including to me and including in ’96, ’97, ’98, ’99—(laughter)—and afterwards. And we trust that in our case it is appropriate, that we are better off with a single currency at the level of this European continent, that is for 12 countries and 313 million people.

I will not pronounce myself on the Gulf countries. I think that it is something they are looking at very, very carefully, and we will see what will be their decision.

MCDONOUGH: Yes, sir.

QUESTIONER: Larry Kantor, Barclays Capital.

I hope you didn’t think you were going to escape without a question on exchange rates. As you noted—

TRICHET: You will not be surprised by my response. (Laughter.)

QUESTIONER: Well, we’ll give it a shot anyway. As you noted, the G-7 had a greater emphasis on trade imbalances, and we all know the biggest trade imbalance is the current account deficit in the U.S. I don’t know of any theory or analyst who thinks you can start to resolve this without some decline in the value of the U.S. dollar. And since the meeting, we’ve seen a sharp decline in the dollar. So the question is whether the market’s on the right track; do they have it right or do they have it wrong? (Laughter.)

MCDONOUGH: Shall I answer it for you? (Laughter.)

TRICHET: No, I would say read the communique of the G-7. It was very, very carefully crafted and I will stick to this communique. You know that we have a message for emerging Asia, which has been a clear message, and we have this message since Boca Raton. We made a G-7 meeting that we had more than two years ago in Florida, and that is a very clear message. The rest of it, you have it in the communique of the G-7.

MCDONOUGH: Yes, sir.

QUESTIONER: My name is Christopher Calabia. I’m from the Federal Reserve Bank of New York.

Mr. Trichet, in your remarks this evening you talked about some of the work ahead for the European Union to continue to build the single market, and you mentioned harmonizing the regulatory structure within Europe. In the financial service sector, great progress has been made in the EU to harmonize regulations, yet their implementation is still left to a large number of national actors. And I’m wondering, would this provide the ECB with an opportunity to serve as a single regulator for Europe, or are you comfortable leaving this to the national level?

TRICHET: Well, we have a position at the level of the euro system, which is, I have to say, very clear. As you know, we have been working on the cooperation between the various regulators—whether they are banking regulators or insurance regulators or markets regulators—and we have agreed upon the so-called Lamfalussy concept, which is a concept of very, very close cooperation between regulators at the, I would say, ground level and with the legislation being provided at the level of Europe in the appropriate fashion.

We called for as intense, as effective and efficient possible that cooperation—very close cooperation between regulators—to give all the chance to the present framework. And we trust at the level of the euro system that there is a good chance that we can prove that it can work, and I will not say anything else. We are in that phase of implementation of a concept which has been accepted by all. And as president of the ECB, I do not lose one occasion of telling regulators cooperate as closely as possible so that the interface with the industry will appear to be the same not only in terms of concept—which should be the case by definition, because we have—(inaudible)—in the banking service, we have the Basel Committee, and we have the directives of the—(inaudible)—so the concept are exactly the same—but also in terms of practical interfacing; the documents that are asked, concept for the statistical collection of that—(inaudible)—force. And I think that we can improve a lot. When the industry said we have the unique single interfacing conceptually and practically, then it seems to me that most of the remark that are made will probably vanish. But that being said, we will see, but it is the—(inaudible)—of where we are now.

MCDONOUGH: We have time for one last question, and thank God, at long last, a lady has raised her hand in the very back.

QUESTIONER: And thank you for calling me a lady, Bill. I appreciate that.

I’m wondering—

MCDONOUGH: Remember, I know who you are, but—

QUESTIONER: I know you know who I am very well.

In terms—

TRICHET: But not me. (Laughter.)

MCDONOUGH: Tell the rest of us.

QUESTIONER: Oh, I’m sorry. Kathleen Hayes—pardon me—Bloomberg Television. I’m just so anxious to ask my question I forgot to introduce myself. Pardon me.

Recently Otmar Issing, your chief economist, seemed to say that he expects oil prices, energy prices, to feed through to the inflation numbers by June, and he agreed with the markets assessment of an interest rate increase by the ECB at that time. I wonder, could you elaborate a little bit more on how you folks at the bank are viewing the posture of energy prices, and to the extent to which they could be an inflationary impulse or, as many people in bond markets certainly here in the United States seem to worry, that they are going to cause a slowdown, something that really won’t necessitate interest rate increases at all? Thank you.

MCDONOUGH: You can count on the lady for a complicated, interesting and challenging question.

TRICHET: Very challenging, and with at least three major issues.

On the price of oil, as you know, we have a full-fledged—(inaudible)—on oil, which captures the meditation of the G-7 and other Gs. And we trust really that it is extremely important that we could improve the functioning of the market as much as possible in terms, in particular, of transparency on the supply side as well as on the demand side. And again, there is there a full-fledged responsibility of all parties concerned, and no party should escape its responsibility.

As regards the inflationary impact, as I mentioned, it is one of the risks that we list in the four major risks that I have been listing. The price of oil was the first I mentioned. And so it’s clear that we observe an inflationary impact and a potential impact on the economy, on the direction of depressing effect on the economy.

What has been observed till now is a remarkable resilience of both—a remarkable resilience of the growth and a remarkable resilience of the anchor of inflationary expectations and of inflation, I would say, in all continent. We have to remain extremely cautious.

Part of this resilience in the growth side comes out of the fact that most of the oil price increases are demand-driven, so that it is because the global economy is going up that the price are going up. And so you have an offsetting of the depressing effect of the price of oil by the fact that the economy’s pushed up by the demand at a global level. And that, of course, is something which we have to keep in mind permanently, and might be also functioning today, even if part of the most recent increases look like being driven by risk premia and insurance premia perhaps more than by demand, at least for the most recent hike.

And of course, as regards the work of the central banks, we have to remain credible whatever risks we have to cope with, including the risk of the increasing prices of oil and commodities in general. Don’t forget that we have an increase of prices, which is across the board as regards commodities. And what we have succeeded till know—and I’m speaking in front of (Tim ?)—is certainly a good result as regards the anchoring of inflationary expectations in circumstances that are obviously difficult.

And we are particularly proud, I have to say, in the ECB and my friends of the Executive Board—Otmar and other friends and the Governing Council—to have been able to maintain the solid anchoring of inflationary expectations in line with our definition of price stability—less than two, close to two—during all this period, again which has been demanding.

And should your interest rate increases, I have been so clear in my last press conference that I will not add anything. (Laughter.)

MCDONOUGH: Won’t you join me in thanking Jean-Claude Trichet? (Applause.)

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Council on Foreign Relations

WILLIAM J. MCDONOUGH: Ladies and gentlemen, good evening. Welcome to the Council on Foreign Relations meeting. This meeting is part of the C. Peter McColough Series on International Economics. The series is sponsored by the council’s corporate program and by the Maurice R.—also known as Hank—Greenberg Center for Geoeconomic Studies. I would like to remind the audience that, unusual for our proceedings, this meeting is on the record. Please remember to turn off your cell phones, BlackBerrys, other wireless devices, because anybody who lets one go off dies and goes immediately to hell. (Laughter.) This is a very serious sort of place, the Council on Foreign Relations. We have the very good fortune to have with us today a person who is rare in not just being a great central banker, which he certainly is, but having that very rare quality of understanding geopolitics at least as well as he does geoeconomics. In the very complicated world in which we live, purely economic answers and purely political answers don’t work. What we need are a combination of those two to bring together wisdom and knowledge in policy that is best for the citizens of all of our countries. Jean-Claude Trichet has the wonderful quality of having been born a Breton. Now, a Breton is a Celt. I’m Irish. I’m Celt. One of the reasons that Jean-Claude and I have cooperated very well over the years is that we speak three languages: French, English and now a bit of Celtic when we can’t get through in any other language. He is the finest product of the French tradition of coming up through a superb university system, a graduate of the Ecole nationale d’administration and became the director of the treasury, one of the most demanding positions in the French government. It is the second position in the Ministry of the Treasury—the Ministry of Finance. He became the governor of the Banque de France, and when people were looking for the perfect candidate to be the president of the European Central Bank, who else could one pick but a brilliant French Celt.

I give you my dear friend Jean-Claude Trichet. (Applause.)

JEAN-CLAUDE TRICHET: Thank you very much indeed. It’s such a pleasure to be invited by the Council on Foreign Relations and such a pleasure to be introduced by you. You are always much too flattering, and I only mention—(inaudible)—to all the audience that this is—(inaudible)—probably. But again, it’s too flattering.

Let me perhaps say a few words on structural reforms in the euro area, which I consider probably one of the main message, if not the main message, of the ECB. Let me perhaps start with a brief assessment of the euro area’s economic performance by recording a few facts. Not all the facts are negative, if I may, and you will forgive me if I say that we have really over the last years witnessed an improvement in the utilization of labor, which increased the leverage by 0.2 percent per year between 2000 and 2004. It has reflected the rise in the euro area employment rate, which came from 61.5 percent to 63.3 percent—of course, much lower than in the U.S., but nevertheless the derivative goes, if I may, in the right direction. And we have been also the witness of a significant decline in the aggregate unemployment rate from 10.5 percent to 8.6 percent. I have to mention that because one has to be fair—I will insist—because it is what we trust on a number of points, which are not positive and where we have to work a lot. But I wanted at the beginning to mention that we had also some figures that were a little bit more flattering.

And I have also to mention that employment growth in the EU area during this period showed resilience to the economic slowdown at the beginning of the decade, with an increase of employment, which was a little bit—a little bit—faster than in the United States of America. But of course, I (correct ?) immediately that in mentioning the fact that unemployment remains, of course, in Europe, in the Euro area at a level which is very, very high and unacceptable in the medium and long run.

Now, let me stress particularly the main problem that we have in Europe in comparison with the U.S. over the recent period of time, and certainly since the years ’95, ’96, which by a number of indicators seems to have been turning points—turning years—both I would say in the U.S. and in Europe. But unfortunately for the Europeans, when the turning point was for the best in the U.S. from the labor productivity and growth potential standpoint, on the other side of the Atlantic—my side of the Atlantic—we had observed exactly the reverse phenomena. And I would like perhaps to give you some figures that are certainly of the essence in this respect, and probably one other main problem in terms of comparison between both sides of the Atlantic.

I have to mention the fact that in the ’80s in terms of productivity, we had a hourly—output per hour worked on our side of the Atlantic, which was yearly around 2.5 percent, when in the U.S. it was around 1.3 percent. And so we were catching up at that time. Our growth potential was reflecting this very rapid increase in labor productivity, and this, of course, permitted us progressively to catch up the U.S. in terms of labor productivity and, as I said, in terms of growth potential. But since the ’90s and the beginning of the present decade, we are the witness of something which goes totally in the other direction. And to take the figures that we have observed in the aggregate period, which goes from ’95, ’96 up to now—of course, it depends on the various indicators concerned—but I would say that in that appropriate order of magnitude would be that as an average during that period, the U.S. has been around 2.5 (percent) when we ourselves have been around 1.2 (percent). So that we have exchanged literally our labor productivity increases as an average—the yearly increases. This is something which we are working a lot on, and which deserve, let’s say, the attention of the European to understand better, not only why the U.S. have picked up substantially—this is something, of course, that has been studied a lot, and I would say that there now is a consensus to consider that two factors have been decisive in the U.S. One is the fact that the U.S. has a specialization in IT, and that in this IT production sector, the relative weight of the sector in the U.S. economy permitted to deliver very, very impressive labor productivity progress and total productivity progress, because it’s precisely the sector where you are registering the most rapid changes in technology and in productivity. But what was probably decisive in the case of the U.S. was that the sector that we (are not ?) productive sector in terms of IT, but utilizing IT has been wonderfully efficient in utilizing IT. And across the board, all these sectors—and particularly the service sector, and amongst the service sector particularly retail sector and the financial services have been, I have to say, very, very impressive in delivering a totally different labor productivity progress since the ’95, ’96 than was the case before. Now this is fully documented. It was not obvious at the very beginning, and of course, we had to wait a little bit to see whether it was sustainable or not. Until now, it appears that it is reasonably sustainable and that it has helped considerably the U.S. economy.

On our side of the Atlantic, we have, as I said, observed a reverse phenomenon. Not only we didn’t take advantage of this new phenomenon that was associated with the IT revolution, not only were we handicapped because we have a specialization in IT, which is less pronounced than in the U.S. case, but we had also—and this is something which remains a puzzle in many respects—we had absolutely no jump in the productivity progress in the IT utilization sector, and particularly in the service sector. On the contrary, I must confess that we have the feeling that in the service sector in particular what we are observing since ’95, ’96—but it has been a progressive and very, I would say in some respect, linear evolution from the ’80s up to now—we see a progressive diminishing of labor productivity progress. And then, of course, we are at the part of our own analysis. We consider that what has happened in this respect is certainly associated with the difference of flexibility that we are observing on both sides of the Atlantic. Whether you look at the labor market or at the goods and services market or at the financial market, it is clear that we are, for a number of reasons—some are explainable, others have to be really studied very, very carefully—we are lagging behind.

I do not mean, again, that there are all liabilities in Europe and assets in the U.S. It wouldn’t be true. And all those who are here know pretty well that homework has to be done, and I will go back to that. In all constituencies in the world, and certainly on both sides of the Atlantic and also in Asia, there is no doubt in that. But is true that when we are balanced in terms of investment and savings in the euro area and in Europe as a whole, we have this handicap of absence of sufficient flexibility. I will mention the absence of flexibility in the—(inaudible)—issue. And I would say that in Europe in this domain, as in many other, there is a consensus to consider that we must move in the direction of more flexibility. That consensus exists in the commission constituency—you know, the role of the commission in Europe. We trust ourselves in the ECB that it is one of the major issue that we have to cope with, and it is fully accepted by the executive branches. The council, which is the (collage ?) of executive branches in Europe, has fully accepted that the labor market was not functioning correctly, that a lot of improvement and structural reforms had to be delivered. It’s been stated in the so-called Lisbon program, which was devised and accepted by all parties concerned, and decided by the council—the (collage ?) of the governments. The problem in that domain, as in many other, is implementation. The diagnosis is very clear. The measures that should be taken are very clear. The problem is, again, to deliver and to deliver in a fashion which would be efficient, accepted by public opinion and by the people of Europe. And then you know pretty well that there are difficulties, and I have to confess that we had recent examples of those difficulties which are real. I will go back to that because it seems to me that in that domain one of our major problem is precisely explanation, pedagogy, tireless explanation to the people of Europe that we would all be better off had we a labor market which would be as flexible as the flexibility of the labor market in the economies that has succeeded in combating mass unemployment. And we have example. I have not necessarily to pick up the example of the U.S. or of the economy that are on this side of the Atlantic—Canada and others. But even in Europe, those of us that have delivered the structural flexibility that is required—(inaudible)—domain are success stories. And I would mention, certainly I hope, my dear Bill—I see to which extent you do not forget ( Ireland ?), but it is a whole model undoubtedly—one of the whole model that we have in the euro area. I could also mention other economies on the euro area of de facto in the euro area. I could mention Denmark, which is de facto in the euro area and has so remarkable successes and others.

The common denominator between all of these economies is that they have flexible market, and that in the eyes of the corporate businesses, in the eyes of the various enterprises and entrepreneur, the labor market is extremely flexible. So they can adapt permanently to the new circumstances. It is not necessarily the same model in terms of social protection, but in the eyes of the enterprises the flexibility is there, and it is the reason of the success. So again, that is a major point, and we will never forget ourselves to make the point to all our partners that whatever they choose as a model for social protection, for handling the difficulty that might come out of the restructuring and reshaping of the (private ?) sector, if we want to eliminate mass unemployment we have to accept the kind of flexibility that is required by the present circumstances in a world which is changing very rapidly.

Let me now say a word on the markets of goods and services. And I would say that in this domain, we can say that we made some progress as regards the completion of the single market in the domain of goods. Tradable goods, frankly speaking, are a market where we improved a lot, and to the extent that the single market with a single currency creates an environment, if I may, an economic environment of 313 million people—don’t forget that we are issuing a currency, a single currency for 313 million people. And for that area, single market with a single currency in the domain of tradable goods, we can improve a lot yet. We have areas where we would consider that the single market is not fully achieved. There are differences in regulation that are remaining differences that we should eliminate as was decided when we started the single-market endeavor—mid-’80s. We had also a number of difficulties that remain in the side of taxation. We have differences of taxation from such things car industry, which are creating segmentation of market for artificial reasons, and we had to eliminate that. So there is a number of domain where we still have a lot of progress to make, but I consider that in these domain we have advanced a lot.

In the area of the services, we really have big problem. And then I would only mention the fact that there is a lot of resistance in Europe to achieve the single market in the domain of services. Perhaps you have had some (echo ?) of this resistance. It seems to us, of course, absolutely unacceptable when you’ve had a sector which presents 70 percent of the GDP in Europe and 80 percent of the GDP on this side of the Atlantic not to treat it as, I would say, forcefully as possible to permit exactly the same kind of benefits one is expecting from a single market. So there we have a lot of things to do. And I must confess that I was myself struck by what research has demonstrated and is demonstrating when you look at the functioning of our own market of services in comparison with the U.S. I will give you only two examples that strike me very much. When you look, for instance, at the frequency of changes of prices, you see that for all prices in both economy—euro area on the one hand and the U.S. on the other hand—the frequency of changes of prices up or down is twice as big in the U.S. as in Europe. You’ll have as an average changes of prices every, I would say, something like five-months-and-a-half in the U.S. when it is 11 months in Europe. And it is even much more important as a difference when you look at the services sector—of course, merchant services sector—where the difference is practically one to three.

So that is one of the element which is fully now documented and substantiated, which demonstrates that we are far from the level of flexibility and capacity to adapt to various and changing circumstances that is the mark of a very flexible economy. But for us, it is clearly because we did not achieve yet the single market of services, which should be clearly, in our opinion, a major goal. And when I sum up what we are recommending to the European in this domain, I say labor flexibility, services—single market of services achievement as the two major goals.

Of course, we have also in the program of Lisbon, which again has been accepted by all governments in 2000 and accepted as a major, major endeavor to be relaunched in the most recent period of time under the pressure of the commission and the pressure of the successive presidency of Europe, and we backed this endeavor very, very strongly ourselves. So it’s been relaunched, the idea having been to not only insist on growth and job creation as being the two major consequences of this relaunching, but also to insist a lot—which was at the start of the endeavor—on the R&D and research and development. And there also I have to say that we certainly are convinced that we should—we should change very, very drastically our own way of looking at it.

Again, I will give you some figures that are a little bit striking. When I look at the spending in the domain of R&D, I am struck by the fact that we have a goal of going up to 3 percent of the GDP. The U.S.—in our own computation against methodology can differ, but I refer to a common methodology—the U.S. spends 2.8 percent of the GDP in R&D in our own computation. We are at the level of 1.9 percent, so that makes a big difference. We have a goal to achieve 3 percent in 2010. I consider that probably the figures themselves to be taken with a grain of salt because we have certainly not only a computative problem, but qualitative problem. It’s absolutely clear that it is the private sector R&D which is likely more in Europe, and it would certainly be a mistake to embark into large increases in public R&D where the problem of the link and the channeling of the public research to the private research remains one of our main—major problem.

But I could also tell you something which we all consider in Europe as to be corrected. It is the annual expenditure on higher education institutions, and they also have the figures that are very, very striking. The spending per student in the United States was 22,234 U.S. dollar—forgive me the precision of the figure—in 2005, while in our side of the Atlantic, the equivalent in U.S. dollar was 9,200; so less than half for higher education institutions spendings per student. It’s a differential which is very, very big, and which is not, again, sustainable, not acceptable.

Again, I would say let’s beware of pure quantitative comparison. You have perhaps a number of reasons why the figures are so largely different, but we know that on top of the quantitative comparison, there is a qualitative element there. It’s much more easy for universities, as you know, to inflate their research, their human capital, in the private productive economy in the U.S.—the culture is fully prepared and even fosters such moves—when on our side of the Atlantic, obviously, we have still a lot of resistance, a lot of problems which we have to cope with, and the sentiment that it is not necessarily appropriate when the private economy is really badly in need of this human capital and of this research to deliver it. Again, the control problem that we have in this respect in a number of countries has to be considered as one of the major issue at stake. As you see, we have computative problem and we have also control problem and qualitative problems.

The relaunching of the Lisbon strategy, which has been, again, decided by the European, has also been based upon the idea that perhaps we were too abstract when we started to think in 2000, and that we have to be closer to the reality. And the reality, as I said, is that we have a full agreement on the diagnosis, and not a full agreement on implementation; far from that, an immense problem of implementation. So what has been decided has been to embark on a re-nationalization, if I may, of the structural reforms in order to be sure that each particular country embarks on the appropriate ownership of its own reform under a peer’s surveillance and under the surveillance of the commission. We will see what is delivered by this new concept. I trust that it is big improvement in comparison with what we’ve been doing over the last five years. But we know, again, that it’s really a major, major problem.

And if you permit me, I would say that this problem, which is that we have a large consensus on what should be done on the diagnosis—even on the measures and the recipes that are at stake—at the level of Europe, we have exactly the same problem, if I may, at the level of the world. We have a nice, full consensus on the diagnosis. We fully agree—and the last G-7 has been very, very clear, I have to say, perhaps clearer than ever—on the fact that we all agree on what should be done at the global level and at the level of each particular partner, continent, countries concerned. Whether it is the U.S., whether it is Europe, whether it is emerging Asia and others, full agreement on the diagnosis. And it is reinforced, I would say, by the most recent meetings, but till now very poor level of implementation.

I mentioned structural reforms in Europe. It’s clear that it is part of the global diagnosis. The global diagnosis is that the contribution of Europe for a better world, for preventing the risks that exist today—particularly as regards global imbalances—is to embark into the progressive elevation of its growth potential is exactly along the line I just suggested. As you know, as I have been mentioning, the delivery is still not satisfactory, and has to be much more satisfactory in the years to come. Exactly the same, if I may, in the U.S.

that will be prudent in this respect, but it seems to me that we have full, full accord on the fact that there is big problem of fiscal (de-savings ?), big problem of household poor savings. These are calling for changes, and I would say in this domain, too, we are expecting implementation. Implementation is the absolute key word, I would say. (Inaudible)—in this domain.

And the same, if I may, in Japan as regard the structural reforms and the boosting of the domestic demand. And the same in Asia, where we are also very clear that we must have an increasing dynamism of domestic demand, and the orderly and appropriate changes in the exchange rate. And I’m not speaking of China alone; I’m speaking of the full body of the emerging Asia, which is more or less in the same situation.

So we all agree on that, if I may. The problem is delivery, implementation. And in this respect, I think it was very good move of the various Gs, to which I recently participated—the G-7 as well as the IFMC and the other meetings—to put the IMF much more than before at the heart of this delivery process through reinforced surveillance. We know that it is difficult to deliver. We know that we should not neglect any additional mean to facilitate this delivery. This is one of the mean which I’m very happy that we could agree upon in Washington.

Thank you very much for your attention. (Applause.)

MCDONOUGH: Well, thank you very much, Jean-Claude. Not only have you demonstrated your ability to balance the geopolitical and the geoeconomic, but after a stunningly frank description of the problems of Europe leaving some of us to wonder, does he know about the savings imbalance in the United States? You hit that very hard as well, and the grin for all of you on Pete Peterson’s face is about this wide. (Laughter.)

Now, let us go to the part of our conference where it will be your opportunity to ask questions. You note that I say ask questions. You will recall that the methodology is you stand, I recognize you, you receive the microphone, you say what your name is, with which organization you are affiliated. And then there is a short period, and at the end there is an upward inflection—(laughter)—indicating a question. Only one speech is permitted, and it’s a wonderful one and it’s been given. (Laughter.)

Who would like to go first? Yes, sir. Right here in the—there you are.

QUESTIONER: I’m Larry McQuade from River Capital.

The question I have is, you refer to Europe-wide. If you broke it down into the component countries, would you find radical differences that are serious, and do we have specific problems with specific countries?

TRICHET: First of all, as you very rightly say, we are looking ourselves in the ECB, in the government banks of the ECB, and at Europe—at the euro area as a whole. There are 313 million citizens—(inaudible)—citizen as a whole, exactly like Ben Bernanke and colleagues in your Open Market Committee meeting are not looking particularly to California or Massachusetts or Florida, but at the full body of the U.S. economy. And as you know, there are major differences from country to country and state to state.

And only to substantiate a little bit what I say, we were very interested in measuring the standard deviation of a number of parameters in Europe, in the euro area, to compare with the U.S.—for instance, inflation; for instance, growth; and a number of others. And we were impressed by the fact that there were a lot of similarities—and some differences, but similarities. Standard deviation are approximately the same in the U.S. and in the euro area because the U.S.

itself is breathing largely from state to state. And growth also we have approximately the same standard deviation, which is also quite—I have to say, quite impressive. But we have—and this is perhaps the mark of the European economy—a persistence of differences which is superior in Europe to what is observed in the U.S., and it calls for appropriate understanding, appropriate research, and I would say appropriate action.

And I would particularly mention one observation that we made, which is good, but calls for action. We have discovered after several years of functioning of the euro area that the relative competitiveness of the various economies in the euro area could change much more than was foreseen. You know, the common wisdom before the euro was you enter into a single currency area, you are freezing the relative competitiveness because no realignment will be possible. And so let’s be very, very cautious because then we are freezing competitiveness forever. What we are observing is that it doesn’t function like that. The real competitiveness are changing quite rapidly.

To give you only the example of Germany, Germany, over the seven years, could regain through unique labor costs moving less rapidly than the average, more than one point per year of relative cost competitiveness in comparison with the average of the euro area, which is good because they entered with a loss of competitiveness which would have been associated with the reunification. So it can move up or down.

Of course, it’s much more flexible than was foreseen. It functions in both direction. And it goes, of course, for prudence, and I would say also for lucidity and peer surveillance, when you are losing competitiveness, and you should be aware of the fact that you must oscillate, if I may, around the trend in the euro area over the medium and long term.

MCDONOUGH: En passant, as some of us say, the Germans have about a 3 percent of GDP current account surplus, mainly in the—(inaudible)—mainly in the trade area of very high quality, high-value-added machine products. So it’s an excellent indication of the ability of a country to readjust its competitiveness, at least in that area.

Next question. Yes, sir, right here.

QUESTIONER: Tom Russo, Lehman Brothers.

The question is you mentioned the trade imbalance. I was wondering, how serious do you consider this in the United States? And the second part would be, what do you think should be done about it? What’s within the control of the United States to do something about it?

TRICHET: As I said, we certainly consider this as one of the risk that we have at a global level. I always myself, when listing the risks that we see—I mentioned the price of oil. I mentioned the global imbalances if they are disorderly and (wending ?). I mentioned the—perhaps the under-pricing of risk that we have presently at the global level in global finance if there is a disorderly transition to an appreciation of risk, which would be perhaps closer to the real risk. And I mentioned protectionism.

Now, to concentrate on global imbalances, it was one of our major meditation in Washington. We have produced in the G-7 a full page to explain this strategy as we see it, and as I said, each partner has homework to do. There is a full agreement of the U.S. executive branch on what should be done in this summing up of the situation to participate in the correction of the global imbalances, taking into account the fact that a cooperative approach would certainly put the global economy in much better shape. And I would say that my working assumption is that we will deliver, but as I said, implementation is the key word. And I expect that we will be, I would say, equipped to convince yourself, perhaps, that we are progressively and orderly delivering when the derivatives will change their fines; namely, when we will see the various—the constellation of imbalances reducing progressively. I would say the fact that they would reduce dramatically is not the problem. The problem is to act sufficiently efficiency for the signs of the derivative to change, if I may.

MCDONOUGH: Yes, sir.

QUESTIONER: Mr. Trichet, Eric Winograd from Drake Management.

You’ve spoken about the evolution of productivity growth in the euro area. Could you perhaps flesh out that discussion a bit by adding your analysis about the evolution of potential growth in the euro area and how that evolution has played into and will play into the Governing Council’s assessment of monetary policy?

TRICHET: In the speech, you might have seen that I had got out of my speech to facilitate communication and not to be too boring. But the speech is good, if I may—(laughter)—and you will see that I mentioned some figures in this respect. We consider in the cards that we could improve the growth potential of the euro area by at least 0.75 percent in comparison with the present analysis that we are making on the growth potential. I’m not referring to only to the ECB itself and the research of the ECB, but it seems to me that there is a large consensus by international institutions to consider that anywhere between 2 (percent) and 2.5 (percent), and that at the moment of speaking we are much closer to 2 (percent) than to the upper side of this range. And (it refer ?) by reference to the present level that we are observing, which is probably above 2 (percent), but close to 2 (percent). I would say that at least 0.75 percent would be, as I said, in the cards if we deliver the reform that I have been mentioning on both the employment rate, on the labor market flexibility, and permitting this kind of labor—(inaudible)—(progress ?) that are of the essence.

When you look at the fact that we were at 2.5 (percent), went down to approximately 1.2 (percent) presently, while the U.S. was at 1.3 (percent) and went up to 2.5 (percent), even in the most recent figures even 2.8 (percent), it means that we have room for maneuvering. There is no doubt that we have room for maneuvering, and perhaps this 0.75 percent is a number assessment of what we could do. But again, what is absolutely necessary—and back to the key word—implementation. If we implement the reforms that have been pretty well identified, we could really elevate the growth potential of Europe, which is overdue.

MCDONOUGH: Thank you. The gentleman on the aisle towards the rear. Yes, sir. QUESTIONER: My name is Olin Robison of the Salzburg Seminar and Middlebury College.

I was especially interested that you included education, which I took to mean higher education, in your speech. I’ve spent a great deal of time on this subject. I see the differences as being truly profound. The American educational marketplace is highly competitive, the European is generally not. Would you elaborate on how you and your colleagues are thinking about this? And what is it that you think about it? What is the potential? In Europe, education generally is notoriously resistant to productive change, so—

MCDONOUGH: Said a teacher. (Laughter.)

TRICHET: You are right to identify these issues as a major one. I must confess that in this domain, it’s only recently that the European have realized that they have in this domain a very significant handicap. They thought that having had the best universities at the beginning of the—(inaudible)—with Bologna and—(laughter)—(inaudible)—and, of course—(inaudible)—Cambridge and all the like—(inaudible)—and so forth, there was a tradition of excellence, and a tradition of excellence in the university and various schools that were still there. And it is true that the potential is enormous, but there also the fact competition is not organized correctly, that a world of excellence is not organized correctly, is playing an important role. Also the fact that, as I mentioned, the attention of the full body of the society to the appropriate level of efforts, including spending in this domain of excellence—excellent education—again is really a new discovery. I would say only a few years ago the European have been aware of the fact that they were really making much less efforts than the U.S. in this domain. So progress are being made in this domain and all others, and I don’t want to be misunderstood. We have a glass in Europe in terms of structural reforms. The glass is half empty, and I insist on the fact that it is half empty. It would be unfair but to mention that we have done a certain level of work. I’ve mentioned the fact that, in terms of job creation, we have been perhaps more successful than has been fully recognized as seen from New York or Washington. And I have to mention that also, but it is also absolutely true that this is one of the domain where we did quite poorly till now, quite poorly. And it is certainly a domain where implementation is much more important than in any others.

The structure of the U.S. universities is such that you have a level of competition. I know that because my brother-in-law has been professor in—(inaudible)—St. Louis, Missouri, and I know in which universe he was placed. Of course, it’s totally different from the universe of a German professor or a French professor and perhaps of an Italian professor. And so we have again to reflect. We cannot overnight change drastically the areas where you are very—(chuckles)—right in saying that there is a certain level of inertia, but we have to change the situation, and it is the strong belief of the ECB.

MCDONOUGH: The gentleman on the on the aisle.

Q John Beattie (ph) from UBS.

Last week, the European Central Bank signed an agreement to provide advice to six Gulf states towards achieving monetary union I believe in 2010. The six states right now, even judging by the convergence criteria of the Maastricht Treaty, are relatively similar as they are all oil-dependent. But as some of the states diversify away from oil to other areas—like for example, Qatar or United Arab Emirates—I wonder, would a one-size-fit-all monetary policy be appropriate?

TRICHET: It is not our responsibility. It is their responsibility to see what is appropriate for them.

We have expressed availability to exchange experience with all the friends all over the world that are envisaging, entertaining the—or only looking at the idea of having a much closer monetary arrangement, a mechanism or even a single currency. We have expressed this availability to friends in Africa, to friends in Asia, and to friends in the Middle East. We consider our technical cooperation as purely technical, and there is certainly, of course, elements that are of a different nature.

What we do is really to demonstrate what we have been doing ourselves. You might remember that also in our case, coming from this capital city of markets and finance, very often the remark on whether one size fits all would be appropriate was very often made, including to me and including in ’96, ’97, ’98, ’99—(laughter)—and afterwards. And we trust that in our case it is appropriate, that we are better off with a single currency at the level of this European continent, that is for 12 countries and 313 million people.

I will not pronounce myself on the Gulf countries. I think that it is something they are looking at very, very carefully, and we will see what will be their decision.

MCDONOUGH: Yes, sir.

QUESTIONER: Larry Kantor, Barclays Capital.

I hope you didn’t think you were going to escape without a question on exchange rates. As you noted—

TRICHET: You will not be surprised by my response. (Laughter.)

QUESTIONER: Well, we’ll give it a shot anyway. As you noted, the G-7 had a greater emphasis on trade imbalances, and we all know the biggest trade imbalance is the current account deficit in the U.S. I don’t know of any theory or analyst who thinks you can start to resolve this without some decline in the value of the U.S. dollar. And since the meeting, we’ve seen a sharp decline in the dollar. So the question is whether the market’s on the right track; do they have it right or do they have it wrong? (Laughter.)

MCDONOUGH: Shall I answer it for you? (Laughter.)

TRICHET: No, I would say read the communique of the G-7. It was very, very carefully crafted and I will stick to this communique. You know that we have a message for emerging Asia, which has been a clear message, and we have this message since Boca Raton. We made a G-7 meeting that we had more than two years ago in Florida, and that is a very clear message. The rest of it, you have it in the communique of the G-7.

MCDONOUGH: Yes, sir.

QUESTIONER: My name is Christopher Calabia. I’m from the Federal Reserve Bank of New York.

Mr. Trichet, in your remarks this evening you talked about some of the work ahead for the European Union to continue to build the single market, and you mentioned harmonizing the regulatory structure within Europe. In the financial service sector, great progress has been made in the EU to harmonize regulations, yet their implementation is still left to a large number of national actors. And I’m wondering, would this provide the ECB with an opportunity to serve as a single regulator for Europe, or are you comfortable leaving this to the national level?

TRICHET: Well, we have a position at the level of the euro system, which is, I have to say, very clear. As you know, we have been working on the cooperation between the various regulators—whether they are banking regulators or insurance regulators or markets regulators—and we have agreed upon the so-called Lamfalussy concept, which is a concept of very, very close cooperation between regulators at the, I would say, ground level and with the legislation being provided at the level of Europe in the appropriate fashion.

We called for as intense, as effective and efficient possible that cooperation—very close cooperation between regulators—to give all the chance to the present framework. And we trust at the level of the euro system that there is a good chance that we can prove that it can work, and I will not say anything else. We are in that phase of implementation of a concept which has been accepted by all. And as president of the ECB, I do not lose one occasion of telling regulators cooperate as closely as possible so that the interface with the industry will appear to be the same not only in terms of concept—which should be the case by definition, because we have—(inaudible)—in the banking service, we have the Basel Committee, and we have the directives of the—(inaudible)—so the concept are exactly the same—but also in terms of practical interfacing; the documents that are asked, concept for the statistical collection of that—(inaudible)—force. And I think that we can improve a lot. When the industry said we have the unique single interfacing conceptually and practically, then it seems to me that most of the remark that are made will probably vanish. But that being said, we will see, but it is the—(inaudible)—of where we are now.

MCDONOUGH: We have time for one last question, and thank God, at long last, a lady has raised her hand in the very back.

QUESTIONER: And thank you for calling me a lady, Bill. I appreciate that.

I’m wondering—

MCDONOUGH: Remember, I know who you are, but—

QUESTIONER: I know you know who I am very well.

In terms—

TRICHET: But not me. (Laughter.)

MCDONOUGH: Tell the rest of us.

QUESTIONER: Oh, I’m sorry. Kathleen Hayes—pardon me—Bloomberg Television. I’m just so anxious to ask my question I forgot to introduce myself. Pardon me.

Recently Otmar Issing, your chief economist, seemed to say that he expects oil prices, energy prices, to feed through to the inflation numbers by June, and he agreed with the markets assessment of an interest rate increase by the ECB at that time. I wonder, could you elaborate a little bit more on how you folks at the bank are viewing the posture of energy prices, and to the extent to which they could be an inflationary impulse or, as many people in bond markets certainly here in the United States seem to worry, that they are going to cause a slowdown, something that really won’t necessitate interest rate increases at all? Thank you.

MCDONOUGH: You can count on the lady for a complicated, interesting and challenging question.

TRICHET: Very challenging, and with at least three major issues.

On the price of oil, as you know, we have a full-fledged—(inaudible)—on oil, which captures the meditation of the G-7 and other Gs. And we trust really that it is extremely important that we could improve the functioning of the market as much as possible in terms, in particular, of transparency on the supply side as well as on the demand side. And again, there is there a full-fledged responsibility of all parties concerned, and no party should escape its responsibility.

As regards the inflationary impact, as I mentioned, it is one of the risks that we list in the four major risks that I have been listing. The price of oil was the first I mentioned. And so it’s clear that we observe an inflationary impact and a potential impact on the economy, on the direction of depressing effect on the economy.

What has been observed till now is a remarkable resilience of both—a remarkable resilience of the growth and a remarkable resilience of the anchor of inflationary expectations and of inflation, I would say, in all continent. We have to remain extremely cautious.

Part of this resilience in the growth side comes out of the fact that most of the oil price increases are demand-driven, so that it is because the global economy is going up that the price are going up. And so you have an offsetting of the depressing effect of the price of oil by the fact that the economy’s pushed up by the demand at a global level. And that, of course, is something which we have to keep in mind permanently, and might be also functioning today, even if part of the most recent increases look like being driven by risk premia and insurance premia perhaps more than by demand, at least for the most recent hike.

And of course, as regards the work of the central banks, we have to remain credible whatever risks we have to cope with, including the risk of the increasing prices of oil and commodities in general. Don’t forget that we have an increase of prices, which is across the board as regards commodities. And what we have succeeded till know—and I’m speaking in front of (Tim ?)—is certainly a good result as regards the anchoring of inflationary expectations in circumstances that are obviously difficult.

And we are particularly proud, I have to say, in the ECB and my friends of the Executive Board—Otmar and other friends and the Governing Council—to have been able to maintain the solid anchoring of inflationary expectations in line with our definition of price stability—less than two, close to two—during all this period, again which has been demanding.

And should your interest rate increases, I have been so clear in my last press conference that I will not add anything. (Laughter.)

MCDONOUGH: Won’t you join me in thanking Jean-Claude Trichet? (Applause.)

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