2  It can be demonstrated that an incentive arises for the central bank to deviate from the unchanged repo rate as time passes and the forecast horizon is moved ahead, even if the forecast was initially on target two years ahead and no new information has been received. For a more in-depth discussion of this time inconsistency problem, see for example Kai Leitemo, “Targeting Inflation by Constant-Interest-Rate Forecasts”, Journal of Money, Credit and Banking 35, August 2003. 2  BIS Review 68/2010  Today, our reasoning is somewhat different. We attempt to determine a forecast path for the future repo rate that entails that monetary policy is, as we often put it, well-balanced. A wellbalanced monetary policy is normally a matter of finding an appropriate balance between stabilising inflation around the inflation target and stabilising the real economy, that is to say, production and employment. One way of illustrating this balance is to say that the deviations arising during the forecast period between, on one hand, inflation and the inflation target, and, on the other, the real economy and a trend, may not become altogether too great (Figure 2). As a measure of deviations in the real economy, the output gap is often used – that is to say, the difference between actual production and the economy’s long-term production capacity or potential output. Figure 2 Well-balanced monetary policy  Repo rate  Inflation  Output gap  That the Riksbank does not only care about inflation, but also about the real economy, is nothing new.
Retail sales in November and December posted a slight decline compared with the corresponding period of 1995. Activity in the construction sector fell back in the fourth quarter and posted a sharp twelve-month drop. Employment levels varied little in industry, with the exception of the automobile sector, where they posted a further substantial decline. They remained stable in the market services and retail sectors, but fell sharply in the building industry. BIS Review 4/1997