This crisis could generally be described as a dramatic end to almost twenty years of stabilisation policy problems. The Swedish economy had been characterised by an unsustainable rise in costs, which had originated in price and wage increases that constantly came on a collision course with the fixed exchange rate. The result was repeated devaluations, modest economic growth, poor productivity growth and more or less stagnant growth in real wages. The performance was markedly weak both compared with earlier periods and in relation to other countries. During the crisis years the situation was aggravated further. Unemployment increased fourfold in the course of a few years and the central government finances deteriorated dramatically. Interest rates rose unchecked and the interest rate differential vis-à-vis Germany occasionally came to several percentage points. Favourable results Today, a little more than ten years after the crisis, the situation is completely different. The new focus of stabilisation policy – which involved crucial changes in the framework for both fiscal and monetary policy – has meant that inflation now remains relatively stable around the target of two per cent (Figure 1). The lower inflation rate has not been associated with weaker growth in output, rather the opposite. GDP growth has averaged roughly half a percentage point higher a year in the past decade than in the two previous decades, and the fluctuations in the real economy also appear to have lessened (Figure 2).
In theory, Pillar 2 requires banks to have a formal process for allocating internal capital against the wide range of risks that are not explicitly part of Pillar 1. This formal process is sometimes referred to as the Capital Allocation Assessment Process or "CAAP". However, it has to be acknowledged that very few banks currently have such a process in place, and only the largest and most sophisticated institutions have been able to devote the resources necessary to building these types of formal capital allocation systems. Consequently, as a regulator, we do not plan to require all banks to develop internal capital allocation models, at least initially. The need for such models must be commensurate with each institution's scale and sophistication. In place of requiring all AIs to develop these models, the HKMA has developed its own internal Supervisory Review Process, or "SRP". As you may know, the HKMA has for a long time set capital ratios on a bank-by-bank basis. This has been with the aim of trying to ensure that the capital ratio reflects the risk profile of an individual AI, taking into account the full range of risks to which it is potentially exposed. We intend to use the SRP to bring greater rigour into the process of setting AI-specific minimum capital ratios. In effect, the SRP is our own credit scoring system. It takes a large number of variables, each carefully chosen to reflect a different aspect of risk, and combines them to produce a single overall "score" for each AI.