governments and central banks the fallout from the financial crisis has been

Governments and central banks the fallout from the

This preview shows page 10 - 13 out of 23 pages.

governments and central banks, the fallout from the financial crisis has been greater and longer- lasting than had been experienced in generations. In fact, this renewed concern for financial stability represents more a return to the roots of central banking than new-age thinking. After all, the Federal Reserve was created from the ashes of the panics and resulting depressions that tormented the U.S. economy in the late 19th and early 20th centuries. It has become a mantra in central banking that robust micro- and macro-prudential regulatory and supervisory policies should provide the first and second lines of defense for financial stability. Still, some are concerned that is not enough and call for including a financial stability goal in the monetary policy mandate as well. Doing so, however, raises the important
Image of page 10

Subscribe to view the full document.

11 issue of how one commits to taking financial stability into account while simultaneously preserving the nominal anchor. If financial stability and price stability goals are in conflict, there is a risk that price stability will be subordinated to the financial stability goal, with serious long- run consequences for economic performance. This issue of the appropriate role of monetary policy in fostering financial stability at the potential cost to inflation goals has been playing out in policy debates and decision in two Scandinavian countries: Norway and Sweden. In discussing these examples, let me be absolutely clear that I am not judging the wisdom of these decisions. Rather, they provide useful case studies of the possible tradeoffs between financial stability and inflation goals that we can and should learn from. Take the case of Sweden. As background, Sweden’s economy has experienced inflation persistently below target, while at the same time, household debt and house prices have grown enormously. In response to the growing level of debt and the potential risks to financial stability it entailed, the Sveriges Riksbank undertook a somewhat tighter stance of monetary policy than it would otherwise have, were it based purely on macroeconomic conditions. The predicted result was a more gradual return to inflation and unemployment goals (Sveriges Riksbank 2014a, p. 17). Similarly, in Norway, the Norges Bank framed a recent policy decision as follows: “Both the objective of keeping consumer price inflation close to 2.5% and the objective of sustaining capacity utilization in the years ahead could in isolation imply a somewhat lower key policy rate forecast.… On the other hand, a lower key policy rate may increase the risk of a further buildup of fi nancial imbalances” (Norges Bank 2014, p. 16).
Image of page 11
12 These examples illustrate the tradeoff between price and macroeconomic goals on one hand, and financial stability goals on the other, when using monetary policy to mitigate risks to financial stability. For example, Lars Svensson (2013, and references therein) uses model simulations to show that the monetary policy actions of the Riksbank, based on a concern for financial stability, have induced a significantly higher rate of unemployment and a sustained shortfall of inflation relative to its target. He goes on to argue that the policy, by reducing
Image of page 12

Subscribe to view the full document.

Image of page 13
  • Fall '13
  • Updike-Tarrozi

What students are saying

  • Left Quote Icon

    As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

    Student Picture

    Kiran Temple University Fox School of Business ‘17, Course Hero Intern

  • Left Quote Icon

    I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

    Student Picture

    Dana University of Pennsylvania ‘17, Course Hero Intern

  • Left Quote Icon

    The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

    Student Picture

    Jill Tulane University ‘16, Course Hero Intern

Ask Expert Tutors You can ask 0 bonus questions You can ask 0 questions (0 expire soon) You can ask 0 questions (will expire )
Answers in as fast as 15 minutes