One such question could be: Why must the Riksbank spoil the party? The Swedish economy has finally begun a period of good growth, rising employment and decreased unemployment, while inflation is low. So why do central bank representatives have to talk about the need to raise the interest rate in such a situation? May it not lead to a renewed increase in unemployment? Another question is how strongly the Swedish economy can expand without risks for inflation. Can it be the case that even the Swedish economy is displaying new tendencies, as certain observers argue has happened in the United States, that is, that growth can be higher without inflation taking off? If so, why is the Riksbank talking of a need to raise interest rates? Let me begin with the first question. Why spoil the party? History teaches that when the growth of demand outpaces the economy’s long-term output trend, this leads in time to risks of capacity shortages and bottlenecks that result in turn in rising prices and wages. At the same time, as it takes one to two years for an adjustment of the instrumental rate to affect the economy, the central bank’s monetary policy decisions have to be based on assessments of the future. Faced with the risk of a situation of this type occurring, it is therefore better to try to slow BIS Review 92/1999  2  things down with a small interest rate increase at an early stage.
A point worth noting is that, if they continue, today’s higher market interest rates will have a direct impact on inflation from household interest expenditure, just as the recent years’ steeply falling interest rates had a sharp downward effect on inflation. In that case, the higher interest expenditure would pull CPI inflation upwards fairly rapidly towards the targeted rate and above inflation’s underlying rate (UNDIX). Monetary policy would then face the same situation, albeit in reverse, as on so many occasions in the recent past. An attempt to counter the tendency by tightening the monetary stance would accentuate the direct impact and add to the increase in CPI inflation. That is why it is inflation excluding transitory factors that is the focal point for monetary policy. Central issues for monetary policy in an upward phase About a fortnight ago the Executive Board of the Riksbank confirmed that the stronger growth can lead to increased price pressure. Monetary policy may accordingly need to be conducted in a less expansionary direction in the future. But the Board also emphasised that the Swedish economy is not yet in such a situation. The trade-off between inflation and growth is uncertain and earlier relationships therefore have to be tested in the light of new information. I consider that this conclusion still holds. When the Riksbank begins to talk of a less expansionary monetary stance, I can imagine it raises a number of questions. I should like to take this opportunity of discussing some of them.