In other words the policy rate is normally adjusted so that inflation 1-2 years ahead, taking into account the balance of risks, is in line with the target. The Riksbank introduced the current regime of a floating exchange rate and inflation target in 1993, after a number of decades with a fixed exchange rate. The new regime has meant a new way of working whereby we attempt, with the aid of monetary policy, to adjust economic growth to what the inflation target allows. A common analogy is that the economy is like a car with certain characteristics that enable it to drive at certain speeds but not at others. In that case we in the Executive Board are the driver, using the policy rate to accelerate or slow down. If the car is going too fast, its tyres will start to overheat and we risk driving off the road, i.e. prices will rise and we have to raise the policy rate to slow down. Conversely, when the car is going too slowly we accelerate by lowering the policy rate. In reality the analogy with a car is somewhat misleading. First, it is difficult to know exactly the speed at which the economy is actually growing. The statistics that we use when forecasting economic growth contain errors, do not provide a comprehensive picture of the economic situation and furthermore are produced with a lag. Another problem is the difficulty in knowing exactly how long it takes before a rate adjustment has the desired effect.
One source of concern for both the United States and the world as a whole is the large deficits in the US economy. In the third quarter last year the current account deficit totalled USD 165 billion, or around 6 per cent of GDP. Data for November show that the deficit has continued to grow, reaching a new record high of just over USD 60 billion. This may result in changes in interest rates and exchange rates that could have considerable consequences for world trade. A large share, or about 40 per cent, of Sweden’s exports go to the euro area, and as a result economic developments there are especially important for us. The recovery in the euro area economy is going slowly. Growth in the third quarter was lower than expected. Available indicators for the fourth quarter provide a mixed picture. Germany, which is an important market for Swedish products, is showing some signs of an improvement. After several years of extensive cutbacks there should be a pent-up need among firms to invest. At the same time exports are being dampened by the euro’s rise against mainly the dollar. BIS Review 10/2005  1  The economic situation in Sweden As regards Sweden the Riksbank has been positive in the past year in its outlook on economic developments. International demand has increased faster than anticipated, with above all exports of services proving unexpectedly robust. Economic policy is also contributing to the relatively bright growth prospects.