What is monetary policy?

The objective of monetary policy is to maintain low and stable inflation. Without neglecting the inflation target, the Riksbank shall moreover contribute to a balanced development of output and employment. Monetary policy is the measures the Riksbank takes to achieve this.

In the Sveriges Riksbank Act the principal objective of monetary policy is worded as the Riksbank shall maintain permanently low and stable inflation. This means that inflation measured as the annual change in the consumer price index with a fixed interest rate (the CPIF), shall be held around 2 per cent. There is broad political support for the inflation target and it can be regarded as one of Sweden’s economic objectives. You can read more about the purpose of the target and the background to it on the Inflation target page.

The objective does not entail inflation always being at exactly 2 per cent. This is not actually possible, as there are constant changes in the economy that make inflation vary in a way that cannot be predicted with sufficient precision, or even counteracted in the short term. In practice, the Riksbank's monetary policy aims to ensure that households and companies have confidence that any deviations from the 2 per cent inflation target will not be too long-term and affect their expectations as to what level of inflation will be normal in the economy.

The main monetary policy tool is the policy rate. By raising or cutting the policy rate, the Riksbank can affect other interest rates in Sweden, which affects demand in the Swedish economy and thereby inflation. If necessary, the Riksbank can also use other measures to ensure that monetary policy has an effective impact, read more on the page Complementary monetary policy measures. At the monetary policy meetings, the Executive Board takes decisions on the policy rate and makes an assessment of the policy rate path needed to attain the desired development and any other complementary measures that may need to be implemented.

Taking production and employment into consideration

Without neglecting the price stability objective, the Riksbank shall also contribute to a balanced development of output and employment. A policy that not only focuses on inflation but also gives some consideration to production and employment is usually called a flexible inflation targeting policy. This can be seen in the fact that the Riksbank does not always try to bring inflation back to the target as quickly as possible.

But the inflation target is thus superior according to the Sveriges Riksbank Act. This means that inflation cannot be allowed to deviate from the target for too long, since the long-term expectations of inflation among households and companies may then be affected. It may also mean that, in order to maintain confidence in the target, the Riksbank may sometimes have to conduct a tightening monetary policy, despite the relatively weak development of the economy, or an expansionary policy, when the economy is doing relatively well.

Monetary policy acts with a time lag

It takes time before monetary policy has a full effect on the economy in general and on inflation. Monetary policy is therefore guided by forecasts for economic developments. The Riksbank’s publications include an assessment of the future path for the policy rate. The forecast for the policy rate is presented in the Riksbank’s Monetary Policy Report.

Monetary policy and financial stability are interlinked

The Riksbank is also responsible for financial stability. A stable financial system is a prerequisite for the Riksbank to be able to conduct an effective monetary policy. This is because the financial markets and the way they function affect the impact that monetary policy has on the interest rates that households and companies pay on their loans. Moreover, the economic consequences of a financial crisis would directly effect inflation, growth and employment.

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Updated 02/01/2023

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