Davíð Oddsson: Promoting price stability and an efficient and safe financial system Speech by Mr Davíð Oddsson, Chairman of the Board of Governors of the Central Bank of Iceland, at the annual meeting of the National Federation of Pension Funds, Reykjavik, 18 May 2006. *  *  *  I thank the management of the National Federation of Pension Funds for inviting me to speak at this distinguished gathering. Various tasks are assigned to the Central Bank in the Central Bank Act. Article 3 states that its main objective is to promote price stability, and that by agreement with the Prime Minister, the Central Bank can declare a numerical target for inflation. According to Article 4, the Central Bank shall undertake such tasks as are consistent with its role as a central bank, such as to maintain external reserves and promote an efficient and safe financial system. The Bank is thereby assigned a role connected with financial stability. In my speech today I shall discuss these important Central Bank tasks, i.e. promoting price stability and an efficient and safe financial system. My concluding remarks will address the pension funds in particular. Economic developments and the inflation target The past few months have been eventful for the Icelandic economy. GDP growth has been robust over the past few years and a combination of factors caused private consumption to surge in 2005.
In my opinion, the pension funds’ increased foreign investments, made strictly with their own interests in mind, are likely to affect currency developments favourably. When the króna remains strong for a prolonged period, pension funds are more likely to sell holdings denominated in it and invest those funds externally, with the effect of a stabiliser. And vice versa, they are likely to buy weak krónur after profit-taking, thereby contributing to a recovery of the domestic currency. In such a scenario, pension funds would serve a secondary role as a foreign exchange reserve, even if they were acting solely in the interest of their own clients. The Central Bank’s Monetary Bulletin, published in December 2005, included an in-depth article on Pension funds – Future prospects and uncertainties by Guðmundur Guðmundsson and Kristíana Baldursdóttir. The study found that pension fund assets could peak at more than double the value of GDP. However, the pension funds’ future profitability is fraught with uncertainties. The most important criterion is return on investment, which could change and drastically affect the level of contributions required to sustain the pensions that the funds are expected to pay. Changes in life expectancy and disability expectancy will have some effect, although these are not as crucial as the uncertainty over return in investment. This indicates that the most important task ahead for pension fund management will be to optimise their return on investment, within the prudential limits that pension funds must respect.