IMF Survey: Many central banks around the world need to keep interest rates low to support an ailing economy but want to avoid triggering a boom in the housing market. What’s your advice on how this can be done?
Svensson: First, one must identify what problems one needs to solve while keeping in mind the available policies and policy tools, the objectives of these policies, and what the policies can achieve.
Let me start with monetary policy. With flexible inflation targeting, the objective of monetary policy is to stabilize inflation around an inflation target, and resource utilization (measured for instance as the unemployment rate) around its long-run sustainable rate. The main policy instruments are the central bank’s policy rate (such as the federal funds rate in the United States) and its communication, including forward guidance by the central bank on how the rate is likely to change in the future. When the policy rate is constrained by its lower bound (which, as I explained in a speech in 2009, is not zero but negative, and not hard but soft), unconventional monetary policies such as large-scale asset purchases (known as quantitative easing) and exchange rate policies (foreign exchange interventions and currency floors) can also be used.
It is important to remember the limitations of monetary policy. Monetary policy cannot achieve financial stability. For that, you need financial stability policy, that is, macro- and microprudential policy and corresponding supervision and regulation. Nor can monetary policy solve structural problems. For that, you need the appropriate structural policy or policies.
If the central bank’s forecast for inflation in an economy is below the inflation target, and the forecast for the unemployment rate in the economy is above its long-run sustainable rate, expansionary monetary policy is called for. That means that the policy rate must be below the so-called neutral interest rate—the interest rate that is consistent with unemployment reaching its long-run sustainable rate in a year or so. If that is prevented by the lower bound for the policy rate, the unconventional policies mentioned above are warranted.
IMF Survey: But what if the economy is also experiencing a housing boom, in the form of rising housing...