Monetary policy Stefan Ingves
The world’s oldest central bank 1668 Sveriges Rikes Ständers Bank 1904 Monopoly on issuance of banknotes 1830s Commercial banks are established 1999 New legislation makes bank independent 1661 Palmstruch - first banknotes 1701 The Riksbank issues “transport” notes 1866 Sveriges Riksbank
The Riksbank’s governing The Riksdag General Council 11 members Executive Board 6 members
The executive board of the Riksbank Stefan Ingves Svante Öberg Karolina Ekholm Lars Nyberg Lars E.O. Svensson Barbro Wickman-Parak
The Riksbank’s tasks • To safeguard the value of money (=price stability)- Oversee and analyse monetary stability- Conduct monetary and exchange rate policy measures - Manage the foreign exchange reserve • To promote a safe and efficient payment system- Oversee and analyse stability in the payment system- Responsibility for the RIX system- Ensure the supply of banknotes and coins
CPI-inflation and historical meanAnnual percentage change Sources: Statistics Sweden and the Riksbank
Different monetary policy regimes Note. The vertical line marks the date for the shift in monetary policy regime, 19 nov 1992. Source: The Riksbank
An independent Riksbank • After 1999: Price stability • Up to 1999: Conducted monetary and exchange rate policy. General Council 4 years General Council 4 years Riksbank Governor 5 years Executive Board 6 years
The Riksbank’s organisation Research
Monetary policy theoryWhy a price stability target? • Monetary policy can not affect employment in the long run • Establishing inflation expectations • High and fluctuating inflation increases uncertainty and affects investment • Costly to hold back inflation • High inflation leads to redistribution of income and wealth • One instrument – one target
Inflation expectations by money market agentsPer cent Sources: Statistics Sweden and Prospera Research AB
Why one to two years ahead? • Uncertainty over the transmission mechanism • Reduce fluctuations in the real economy
Forecasts • 6 monetary policy meetings per year (2008) • 3 Monetary Policy Reports • 3 updated assessments • 2 public hearings before the Riksdag Committee on Finance
Repo rate with uncertainty bandsPer cent, quarterly averages Sources: The Riksbank Note. Broken lines represent the Riksbank’s forecast.
CPI with uncertainty bandsAnnual percentage change Source: Statistics Sweden and the Riksbank Note: Broken line is the Riksbank’s forecast
GDP with uncertainty bandsAnnual percentage change, seasonally-adjusted data Sources: Statistics Sweden and the Riksbank Note. Broken lines represent the Riksbank’s forecast.
Optimal monetary policy Within a theoretical framework: Minimize quadratic forecast loss function = , mean inflation forecast at t for period mean output gap forecast, constant relative weight on output-gap stabilization 20
Modified Taylor curves (ex-ante) and optimal monetary policy choice D A B E C 0 21
Estimated inflation and GDP gapPercentage deviation from the target and HP trend Sources: Statistics Sweden and the Riksbank Note. Broken lines represent the Riksbank’s forecast.
Production as a Cobb-Douglas function and A = Technology, K = Capital , H = Hours worked, = average hours per worker L = Labour and α = constant 23
Estimated gapsPercentage deviation from the HP trend Sources: Statistics Sweden and the Riksbank Note. Broken lines represent the Riksbank’s forecast.
Signalling – influencing expectations • Monetary Policy Reports • Policy rates and policy rate forecasts • Minutes of monetary policy meetings • Speeches – clearifying standpoints afterwards, signalling in advance just in exceptional cases
Signalling - Policy rate and 3 month treasury billsProcent Source: The Riksbank
Summary • The Riksbank is an authority under the Riksdag • Reasonably low inflation is beneficial (target of 2% +-1%) • Repo rate change achieves full impact after 1-2 years • Independent from 1999 • Openness => a tool that creates legitimacy
Monetary policy repo • Repos are implemented weekly • Term of one week • Liquidity forecast in the morning • Repo announcement on Tuesdays 09.30-09.45 • Allocation at 10.00 • Liquidity flow on Wednesday • lending/delivery of collateral • Daily fine-tuning operations at 16.20-16.40
Policy rates & deposit ratesPer cent Source: The Riksbank
The overnight market In both examples Bank A and B have two possibilities. 1) They can use the overnight market or 2) They can use the standing facilities offered by the Riksbank The Riksbank O/n interest rate Example 1 2.75 Bank A + 50 Bank B - 50 1.25 The position of the banking system 0 The Riksbank O/n interest rate Example 2 2.75 Bank A -+100 Bank B - 50 1.25 The position of the banking system 0
The overnight market – MPU April-09 In both examples Bank A and B have two possibilities. 1) They can use the overnight market or 2) They can use the standing facilities offered by the Riksbank The Riksbank O/n interest rate Example 1 0.50 Bank A + 50 Bank B - 50 0.00 The position of the banking system 0 The Riksbank O/n interest rate Example 2 0.50 Bank A -+100 Bank B - 50 0.00 The position of the banking system 0
Carrying out the main refinancing operation • Calculating the net position of the banking system • Banknotes and coins in circulation • +Deposit facility • +Other liabilities • +Capital • ./.Gold and foreign exchange reserve • ./.Marginal lending facility • ./.Other assets • =Net position of the banking system, i.e. the level of the repooperation or issuing of certificates
The Riksbank steering of the O/N Rate Over Night Interest Rate, % Lending Facility (ceiling) (2.75%) Fine tuning Operations +/- 10 bp Repo Rate (2.00) and O/N Rate are within the corridor (1.25%) Deposit Facility (Floor) The position of the banking system, i.e the need for the banks to deposit at or borrow from the Riksbank Liquidity surplus Liquidity deficit 0 The Riksbank is carrying out a repo transaction and the liquidity need of the banking system is placed close to zero
The Riksbank steering of the O/N Rate – MPU April-09 Over Night Interest Rate, % Lending Facility (ceiling) (0.50%) Fine tuning Operations +/- 10 bp Repo Rate (0.50) and O/N Rate are within the corridor (0.00%) Deposit Facility (Floor) The position of the banking system, i.e the need for the banks to deposit at or borrow from the Riksbank Liquidity surplus Liquidity deficit 0 The Riksbank is carrying out a repo transaction and the liquidity need of the banking system is placed close to zero
To sum up • The banking system has always the possibility to deposit or borrow over night at predefined interest rates, thus the overnight interest rate will be between these two interest rates. • In order to stabilise the short term interest rate we carry out different monetary policy operations, above all a weekly repo operation and daily fine tuning.
Monetary Policy Repo • Weekly Repo transaction • One week maturity • Liquidity forecast in the morning • Repo announcement / bidson Tuesdays between 9.30-9.45 • Allotment at 10.00 • Settlement on Wednesday • Loan/delivery of securities
Example : Repo operation (cont) Terms and conditions published on Reuters, tuesdays at 09.30 REPO 070214-070221 FIXED REPO RATE 3.00 %. ON FEBRUARY 14 2007, THE RIKSBANK SHALL PURCHASE GOVERNMENT SECURITIES AND OTHER VALID SECURITIES FOR RESALE ON FEBRUARY 21 2007. ALL MONETARY POLICY COUNTERPARTIES ARE INVITED TO SUBMIT BIDS TO THE RIKSBANK (08-6966970) BY 9.45 AM ON FEBRUARY 13 2007, AT THE LATEST. THE LOWEST ACCEPTED VOLUME IS SEK 200 MLN. THE HIGHEST ACCEPTED VOLUME IS SEK 5 BLN.
Example: Repo operation • Bidding takes place between 09.30-09.45 • Bank A bids 3 billion SEKBank B bids 2 billion SEKBank C bids 2 billion SEKTotal bids = 7 billion SEK • Riksbank has forecasted the aggregated liquidity deficit of the banking system to 4 billion SEK on average during the repo period. • The allotment will therefore be 4 billion/7 billion = 0,5714 = 57,14 per cent
Example : Repo operation (cont) • Bank A receives 57,14 % of bidding volume.0,5714 x 3 billion = 1 714 billion SEK • Bank B receives 57,14 % of bidding volume.0,5714 x 2 billion = 1 143 billion SEK • Bank C receives 57,14 % of bidding volume.0,5714 x 2 billion = 1 143 billion SEKTotal amount allocated: 1 714 + 1 143 + 1 143 = 4 000 SEK billion
Example : Repo operation (cont) Result of repo operation published on Reuters at 10.00 RESULT OF FIXED REPO 070207-070214 FIXED REPO RATE 3.00 % ACCEPTED VOLUME 4.0 billion PERCENTAGE ALLOTTED 57.1400 % DEPOSIT RATE 2.25 % LENDING RATE 3.75 %
The macroeconomic landscape • The financial landscape • Regulatory landscape
The inflation target • Stability in the payment system
Background to the crisis:The macroeconomic landscape • Global imbalances built up over a longer period of time • Large current account surplus in the east • Large current account deficit in the west • Large capital flows and expansionary monetary policy pushed down interest rates
Current account as share of GDPPer cent Source: The IMF
Background to the crisis:The financial landscape • Low interest rates led to hunt for investment with higher return • Increased indebtedness • Sharp increase in asset prices • Extremely low risk premiums • Securitisation and many new instruments • Special companies off the banks’ balance sheets • Implicit and explicit guarantees led risks back into the banks