This can create a tension between short-term and long-term perspectives, which is not so easy to manage. As monetary policy-maker, one must weigh the more concrete and immediate disadvantages of a slightly larger deviation from the inflation target and a somewhat weaker economy in the short run against the more abstract and uncertain, but potentially much greater cost of a really poor development further ahead. This is no easy assessment, but it is important to realise that it is indeed an assessment, where the answers are not self-evident, either in general or from one time to another. A particularly difficult situation may arise if inflation is low and falling and growth is weak, at the same time as household debt and housing prices are rising. One might think that such a situation is not very common, but this is actually to some extent what is happening in Sweden now. At the same time as inflation was surprisingly low and GDP growth very modest according to the most recent statistics, more people are now expecting housing prices to rise and the housing market is often being described as “red hot”.8 Good to have clarity regarding macroprudential supervision – but no quick fix Given this, it is fairly obvious that it is difficult for monetary policy alone to do battle to reduce the risks linked to household borrowing and developments in the housing market. Support is both desirable and necessary.
The turmoil has also affected all of the Bank’s work; from the setting of interest rates, to the scale and structure of our market operations, and to our joint work with the FSA and Treasury to deal with institutions under stress and to help design an effective international response to the crisis. For example, like other central banks, we have adapted our money market operations to provide the liquidity the banking system as a whole has required. First, we have allowed banks to increase their reserve balances at the Bank, increasing the size of our overall provision of central bank money; second, within that larger total, we have shifted the balance towards longer-term lending as the terms of market finance have shortened; third, we have widened the collateral we accept for longer-term repos. And in April, we introduced a special scheme to provide banks with up to three years’ finance for legacy assets which have become illiquid. Last week we offered extra sterling liquidity through our usual Open Market Operations and provided US dollar liquidity as part of co-ordinated action with the Federal Reserve, ECB, Bank of Japan and Swiss National Bank. We also extended the window in which banks can swap their legacy assets under the Special Liquidity Scheme until January next year. Even once the window closes, the Scheme’s asset swap will provide liquidity for a period of up to three years, something many people have not fully appreciated.