ANDREW SENTANCE, Bank of England
Email: andrew.sentance@bankofengland.co.uk

In this speech, Andrew Sentance, a member of the Monetary Policy Committee, discusses the origins of the recent change in the global inflation climate, whether the change in trend is likely to be sustained and the implications for monetary policy. He highlights the stronger inflationary impetus from goods traded on global markets in recent years, reflecting strong growth in developing and emerging markets. Though the major developed economies are better placed to deal with the current round of price shocks than during the 1970s, emerging market and developing economies may be more vulnerable. But avoiding the mistakes of the 1970s, when high inflation became deeply ingrained and embedded in behaviour and expectations, is likely to require a squeeze on spending and incomes - with consequences for economic growth in the short term.

PAUL TUCKER, Bank of England - Monetary Policy Committee
Email: paul.tucker@bankofengland.co.uk

In these remarks, Paul Tucker, Executive Director for Markets and Monetary Policy Committee (MPC) member, notes that social, political and historic factors affect the choice of monetary policy decision-making structures in different countries. In the United Kingdom, the MPC sets Bank Rate on a one member, one vote basis, and so compared with other central banks, is at the 'individualistic' end of the spectrum. But there are centripetal forces at work too: MPC members are incentivised to listen to one another, learn and persuade by careful analysis; and some MPC communications, such as the quarterly Inflation Report, are based on a shared understanding of the economy. The more collective Committee statements provide a backdrop for individual members' statements, and help to reduce the risk, aired by some commentators, of 'cacophony' in communications impeding the effectiveness of policy. As for the current conjuncture, he notes that because of the financial market turmoil, the short-term risk-free rate of interest may not be a summary statistic of monetary conditions in the usual way. Consequently it is necessary to undertake a richer analysis of monetary and credit conditions.

GABRIEL JIMENEZ, Bank of Spain
Email: gabriel.jimenez@bde.es
JOSE A. LOPEZ, Federal Reserve Bank of San Francisco
Email: jose.a.lopez@sf.frb.org
JESUS SAURINA SALAS, Bank of Spain
Email: jsaurina@bde.es

Since bank credit lines are a major source of corporate funding, we examine the determinants of credit line usage with a comprehensive database of Spanish corporate credit lines. A line's default status is a key factor driving its usage, which increases as a firm's financial condition worsens. Line usage decreases by roughly 10% for each year of its life. Lender characteristics, such as the number and length of a firm's banking relationships, are found to affect a firm's usage decisions, and credit line usage is found to be inversely related to macroeconomic conditions.

MARCO BUTI, European Commission, DG II
Email: MARCO.BUTI@ec.europa.eu
MARTIN LARCH, European Union - Directorate General for Economic and Financial Affairs (DG ECFIN)
Email: martin.larch@ec.europa.eu
FABIO BALBONI, University of Bologna
Email: balboni.fabio@gmail.com

This paper examines economic policy interactions in the Economic and Monetary Union when the assessment of cyclical conditions in real time is surrounded by uncertainty. On the basis of a simple stylised model it shows that with a Nash-type of interaction different views about the output gap on the side of the policy players - the Council of the European Union, the European Commission and the European Central Bank - can give rise to excessive activism with policy players pushing economic variables into opposite directions. It argues that the costs of such policy conflicts can be reduced by agreeing on a common assessment of the cycle, by constraining policy variables, and/or by increasing the weight of fiscally conservative institutions. An alternative option to sidestep policy conflicts ensuing from diverging views of the cycle is to take policy decisions sequentially, as is the case in a Stackelberg-type of interaction. The paper shows that for a given misperception of the cycle, the impact on the policy instruments and on output and inflation are generally smaller in the Stackelberg equilibrium as compared to a Nash outcome. Alternative allocations of roles - that is leader versus follower - are discussed and assessed.

ANDREAS PICHLER, Vienna University of Economics and Business Administration
Email: Andreas-pichler@utanet.at
KATHARINA STEINER, Vienna University of Economics and Business Administration
Email: katharina.steiner@wu-wien.ac.at
GERHARD FINK, Vienna University of Economics and Business Administration - Research Institute for European Affairs (IEF)
Email: gerhard.fink@wu-wien.ac.at
PETER R. HAISS, Vienna University of Economics and Business Administration, Bank Austria - Member of UniCredit Group
Email: peter.haiss@wu-wien.ac.at

The aim of this chapter is to identify problematic issues of the process of European financial market integration focusing on banking in order to draw lessons for the design of the integration process of other service industries. Particular focus will be put on the implications of the (de)regulation-induced integration, on changing financial market structures, competition and efficiency in EU-15. This is of importance as the perception rises that integration and the single market for financial services per se are the ultimate objective of the EU's integration efforts. But, does the design of the financial integration process promote the growth impact that is needed to achieve the Lisbon economic goal? The value of this chapter lies in merging the law-finance view and the finance-growth nexus. We collect descriptive evidence and combine it with theoretical and empirical research results on financial market integration.

VIVI MALTEZOU, Lancaster University - Management School
Email: V.Maltezou@lancs.ac.uk
GERAINT JOHNES, Lancaster University - Management School
Email: G.Johnes@lancs.ac.uk

Using personnel records from two firms in the banking industry, duration models are estimated to examine separations in the context of Great Britain and Greece. We find that it is sustained, rather than instantaneous, performance that is linked to separations. In common with some earlier studies, we find qualified support for a u-shaped relationship between performance and separations, but only in the case of the British data. Both of the banks under investigation experienced substantial reorganisation activity over the time period considered, and we find that the year following this was characterised by increased separation propensities. While most of our findings are consistent across the firms in the two countries studied, we find that single men are more likely than their female counterparts to quit in Britain, but less likely to quit in Greece. We offer some suggestions about why this should be the case.

WING YAN YIP, Imperial College London
Email: wingyanyip@gmail.com
DAVID A. STEPHENS, affiliation not provided to SSRN
Email: dstephens99@hotmail.com
SOFIA C. OLHEDE, affiliation not provided to SSRN
Email: s.olhede@ucl.ac.uk

This paper presents hedging strategies for European and exotic options in a Levy market. By applying Taylor's Theorem, dynamic hedging portfolios are constructed under different market assumptions, such as the existence of power jump assets or moment swaps. In the case of European options or baskets of European options, static hedging is implemented. It is shown that perfect hedging can be achieved. Delta and gamma hedging strategies are extended to higher moment hedging by investing in other traded derivatives depending on the same underlying asset. This development is of practical importance as such other derivatives might be readily available. Moment swaps or power jump assets are not typically liquidly traded. It is shown how minimal variance portfolios can be used to hedge the higher order terms in a Taylor expansion of the
pricing function, investing only in a risk-free bank account, the underlying asset and potentially variance swaps. The numerical algorithms and performance of the hedging strategies are presented, showing the practical utility of the derived results.