Even growth theory was sometimes based on demand analysis rather than on the growth of the factors of production and on technological progress. During this period, full employment was the top priority of Swedish economic policy, as is evident in every fiscal plan from the 1950s and 1960s. The idea was that full employment involved a small rate of frictional unemployment of around 2.5 per cent, even though the level was never stated explicitly in policy documents. That level was assumed to correspond to people that at the time of each measurement were in the process of changing jobs or in the process of leaving the education system to enter the labour market or similar. According to the prevalent view, higher unemployment could always be explained by insufficient demand. It was generally accepted among professional economists and the public that the government could fine-tune the economy with the aid of fiscal policy - expenditures, tax receipts and tax structures. It was a question of bridging the cyclical slumps. These ideas prevailed on both sides of the Atlantic, even though there was a school of sceptics both in Europe and the United States. BIS Review 65/2004  1  This policy was highly successful for a long time. For the greater part of the post-war period, unemployment in Sweden remained clearly below 4 per cent. On an annual basis it did not exceed 4 per cent at any time between 1950 and 1990. Why didn’t the successes last?
The latter issue has been discussed more and more in the public domain recently, where it has been claimed that excessively tight monetary policy has resulted in the loss of up to 75,000 jobs, as if a simple relationship existed between interest rate decisions and jobs. Allow me to begin with a retrospective approach to address the issue of monetary policy’s effects on employment in the long run. Employment and inflation in the long term - a retrospective view During the first decades of the post-war era, one of the fundamental theses of Keynes’ legacy was that there was a direct trade-off between unemployment and inflation, implying that decision-makers could secure lower unemployment by allowing inflation to rise. Inflation was moderate and full employment was achieved. Owing to this line of reasoning, the fight against inflation was completely overshadowed by demand management. In addition, the power of monetary policy was constrained by the exchange-rate cooperation at that time - Bretton Woods - which had a fixed exchange rate as its target. When I started my economics education in the early 1960s, monetary policy revolved around quantitative controls of the credit market. Interest in stabilisation policy theory was instead tied to fiscal policy. The economics curriculum focused on the impact of fiscal policy on demand developments. How big are the multiplier effects of public expenditures, tax changes and expenditures financed in different ways? The supply side, i.e. the issue of the long-term sustainable growth rate under full capacity utilisation, was almost entirely overlooked.