regulation of community banks going forward. yesterday afternoon ’ s session on the role of community banks provided ample evidence of their continued viability and importance. the lee and williams paper provides evidence of the importance of small businesses to job creation in our economy and the important contribution that community bank lending makes to the survival of small businesses. focusing on start - ups, lee and williams find that proximity to a community bank increases the likelihood that a new small business uses bank credit to finance its operations. their findings support the importance of local knowledge and “ soft information ” that emerges from a bank ’ s relationship with its customers in underwriting loans to particularly opaque small businesses. deyoung and his coauthors look at differences in loan default rates across community banks and find that banks in rural areas make loans that default less often than loans made by community banks in urban areas. they also find that loans made outside of a bank ’ s local area default at higher rates than do local loans. both results can be interpreted as showing the value of banking relationships, because loans default less often in situations in which soft information is likely to be more available to the lender. if any doubt remains about the importance of community banks to local economies, the kandrac paper looks at the extreme situation in which a community bank fails, and documents the subsequent harm to local economic growth resulting from that failure. of particular relevance to regulators, kandrac points out that the effect of a bank ’ s failure on the local economy differs depending on the resolution method. in particular, he finds that resolutions that include loss - sharing agreements tend to have smaller negative effects on local economic growth than resolutions that do not include such agreements ; kandrac attributes these differences to the greater harm done to banking relationships when there is no loss - sharing agreement. in another result, kandrac finds that relationship lending appears to be stronger in local markets where banking competition is more intense. this is a contribution to a substantial abstracts of papers presented at the conference are available on the federal reserve bank of st. louis website http : / / www. stlouisfed. org / banking / community - banking - conference / abstracts. cfm. bis central bankers ’ speeches economic literature that has discussed whether there is a conflict between the desire of antitrust authorities to maintain competitive markets and the desire to foster productive longterm relationships between small businesses and their lenders. kandrac ’ s finding of no conflict is reassuring for those of us charged with both encouraging

interest rate paths can be used to illustrate the choices facing monetary policy. let me use the riksbank ’ s interest rate decision in december 2004 as an example. on that occasion we left the rate unchanged despite the fact that inflation was forecast to be below our target of 2 per cent during the greater part of the next two years. with inflation forecast to be so low during such a large part of the forecast period it would have been possible to justify a further rate cut. but there were also arguments in the opposite direction. the most important was that demand was already growing markedly faster than the economy was deemed capable of sustaining in the long run. the vigorous growth was anticipated to continue and so it wasn ’ t weak demand that was causing the low inflation. instead, the low inflation was being caused by unexpectedly high productivity and unexpectedly low price increases for imported goods, something that in itself could be expected to further stimulate growth in the period ahead. an additional factor was that the repo rate was already at an unusually low level, which could partly explain the increase in households ’ debt burden and the continued rise in housing prices. even though debt levels were not deemed to be a threat to financial stability, another rate cut could have further fuelled house price inflation and indebtedness. that in turn could have given rise to future problems when monetary policy eventually would most likely have to be tightened. none of these arguments in themselves were the key factor in deciding to leave the repo rate unchanged, but taken together they indicated nevertheless the need for a certain measure of caution. in this kind of situation it can be interesting to consider how different future paths for the interest rate can be expected to affect both the real economy and inflation. figure 6 shows resource utilisation in two different cases : one based on an unchanged repo rate and another on the implied forward rates that applied during the autumn. at that time the implied forward rates were indicating that the repo rate would be raised very shortly and that it would then rise to levels around 4. 5 per cent in the longer term. resource utilisation picks up in both cases, turning positive after about a year. but if the repo rate is raised according to the implied forward rate at the time, resource utilisation drops, turning negative again during 2007, whereas it remains positive throughout the whole period covered by the example if the rate is held constant. the situation also differs somewhat between the two alternatives when it comes to inflation ( see figure 7 )