As I just said, I subscribe to a 2 percent target for inflation over the long run. However, given how badly we are doing on our employment mandate, we need to be willing to take a risk on inflation going modestly higher in the short run if that is a consequence of polices aimed at lowering unemployment. With regard to the inflation marker, we have already experienced unduly low inflation of 1 percent; so against an objective of 2 percent, 3 percent inflation would be an equivalent policy loss to what we have already experienced. On the unemployment marker, a decline to 7 percent would be quite helpful. However, weighed against a conservative estimate for the natural rate of unemployment of 6 percent, it still represents a substantial policy loss. Indeed, weighed against a less conservative long-run estimate of the natural rate, it is a larger policy loss than that from 3 percent inflation. Accordingly, these triggers remain quite conservatively tilted in favor of disciplined inflation performance over enhanced growth and employment, and it would not be unreasonable to consider an even lower unemployment threshold before starting policy tightening. I would also highlight that while I believe that optimal policy would be consistent with inflation running above our 2 percent target for some time, this policy does not abandon the 2 percent target for long-run inflation. Indeed, I would support combining this policy with a formal statement of 2 percent as our longer-run inflation target in conjunction with reaffirming our commitment to flexible inflation-targeting.
The wage growth rate influences inflation, unemployment and interest rates In the Riksbank’s most recent forecast, we estimate that hourly wages will increase by about 3.5 per cent per year in 2012 and 2013, and that this corresponds with underlying CPIF inflation of close to 2 per cent towards the end of the forecast period. At the same time, unemployment will only fall to just above 6 per cent at the end of the forecast period. The National Institute of Economic Research’s most recent report of wage formation, from May of this year, presents calculations of the impact of the size of wage increases on inflation and employment. These indicate that wage increases would have to be limited to about 3 per cent per year in 2012–2014 for unemployment to be sustainably decreased to 5 per cent, in accordance with the government’s ambitions. I assume that we will be hearing more about this later today. The Riksbank has made similar calculations that also indicate a connection between wage trends, inflation and unemployment. The basic mechanism in these calculations is that higher wage increases lead to increased costs for companies. If companies wish to retain profitability, they have to choose between raising their prices or decreasing their personnel costs by reducing employee numbers. The most likely scenario is that a combination of these measures will be adopted. Inflation will increase and employment will decrease.