Regarding deviations from the inflation target, it is important to bear in mind that a successful and credible monetary policy gives more weight to long-term than to short-term considerations, and that it is neither possible nor optimal to fine-tune the inflation rate with excessively volatile interest rates. We still consider the likely outlook that interest rates will remain unchanged for the time being, then rise as the peak of aluminium-related investments approaches. However, the point at which it may be necessary to raise interest rates could be further away than was previously foreseen, since inflation has been very low recently and will continue to be. As always, the outcome will depend on future developments. In light of the present low rate of inflation it cannot be ruled out that negative shocks to domestic demand and to imported inflation might call for a temporary reduction in interest rates from their present level. This could occur, for example, if proposed investments in connection with the Norðurál smelter expansion do not go ahead, if domestic demand driven from other sources than aluminium industry investments turns out much lower than is currently expected, or if deflationary pressures continue to build up in the global economy. Nonetheless, the weakening of the króna in recent weeks reduces the likelihood that interest rates will be lowered. Monetary policy will be reassessed when the occasion demands, and in particular when the fiscal and housing finance policies are made public.
Market interventions in 2000 and 2001 depleted the Central Bank’s foreign reserves, creating a pressing need to strengthen it. The  2  BIS Review 45/2003  Central Bank has been engaged on this task and will continue to do so. It had purchased foreign currency for the equivalent of 30.7 b.kr. since September 2002, which has undoubtedly exerted some impact on the króna in the short run, although the long-term effect is negligible, if any at all. The exchange rate for the króna plummeted in 2000 and 2001, and for quite some time was substantially below a level reconcilable with long-term equilibrium. This occurred at a time when the price of key exports was very high, making the years 2000 and 2001 especially favourable for the export sector and in fact also for import-competing sectors. Enterprises in these sectors understandably felt the effects of the rise in the exchange rate in the first half of this year. It is not to be expected, however, that the same conditions will re-arise in these sectors as prevailed, for example, during 2001 and in the early part of 2002. The exchange rate remained very stable from spring to early winter 2002, when the króna entered a strengthening phase which continued until the beginning of February. The Central Bank has stated its view that the appreciation over this period was primarily the effect of planned aluminium-related investments in East Iceland.