BIS central bankers’ speeches  5  Given our choice of the level for the key policy rate, the deviation from the inflation target will be somewhat larger and economic developments somewhat weaker in the short term than would otherwise have been the case. This cost can be regarded as an insurance premium against future adverse outcomes. The gains that we can achieve are that a downturn will be less pronounced should the economy be exposed to negative shocks. In addition, we can reduce the probability that imbalances trigger a crisis. The expected path for inflation and output becomes more stable. The size of the gains is uncertain. Developments in debt and house prices depend on a number of factors in addition to the interest rate. The extent to which the interest rate influences the build-up of imbalances may thus change from one situation to another. Even in retrospect it will be difficult to measure the gains. The size of the insurance premium will also vary. When inflation has strayed far from the target, the prospect of a further deviation will be given more weight than when inflation is close to the target. It is generally agreed among central banks that monetary policy must in certain situations take into account the risk of a build-up of financial imbalances. At the same time, Norges Bank has been one of few central banks where this consideration has played a clear role in interest rate setting in recent years.
If there are prospects that inflation will become too low at the same time as debt and house prices are rising, the key policy rate’s main task is to ensure that inflation is again brought up towards the target. Several economic policy instruments makes it easier to achieve several objectives at the same time. Stricter banking regulation helps reduce systemic risk, but we cannot act on the assumption that tighter regulation alone will suffice to prevent future crises. There is considerable uncertainty with respect to potential shocks that may hit the economy in the future. Turbulence can arise abruptly and from unexpected events. Hence, it is important to guard against particularly adverse outcomes. 5 In recent years, Norges Bank has chosen to keep the key policy rate at a level that has consistently been a little higher than implied by medium-term inflation and output considerations. Financial stability considerations have played a role, without asset prices or debt having an independent role as target variables. The goal has been to achieve an improved path for inflation, output and employment over time. Let me explain further. 5  See Adrian, T. and N. Liang (2014): “Monetary Policy, Financial Conditions, and Financial Stability”, Federal Reserve Bank of New York Staff Report No. 690, for a further discussion.