inflation and how much it varies over time. monetary policy can not, on the other hand, significantly affect the average level of real quantities such as production, employment and unemployment. the average level of such quantities is determined by other factors, such as demography, competition and tax policies, research and development and education and training. there are therefore good reasons why monetary policy should focus on inflation and have an inflation target. flexible inflation targeting policy a strict interpretation of the possibilities of monetary policy can easily be perceived as being that central banks can only affect inflation. however, although monetary policy can not affect the average level of real factors, this does not mean that it is ineffectual in stabilising fluctuations in these factors. i mean by this that monetary policy can contribute to the stabilisation of resource utilisation at a normal level. in practice, central banks with an inflation target conduct what is called flexible inflation targeting. this flexibility means that – alongside the long - term inflation target – the central banks also strive to ensure that fluctuations in both inflation and the real economy are kept at a reasonable level. striking the right balance between these factors is what the riksbank calls a well - balanced monetary policy. the flexibility of inflation targeting becomes particularly important in situations where a conflict arises between the objective of reaching the inflation target and the objective of stabilising the real economy. in some situations, the inflation target calls for a certain type of monetary policy while resource utilisation calls for another. one example of this is the situation that prevailed during most of 2008, the year before i joined the executive board. energy and food prices increased dramatically. this pushed up inflation to unexpected levels. at the same time, economic activity appeared to be declining – a decline that eventually became a severe economic downturn. if, in such a situation, the interest rate had been substantially increased in order to rapidly bring inflation back down to the target, the economic situation could have been undermined even more. however, as the riksbank works with a flexible inflation target we can choose not to bring inflation back to the target as quickly as possible. this flexibility also gives us scope to stabilise the fluctuations in the real economy. how long it should take to return inflation to the target depends, among other things, on the type of shock that has occurred, the size of the shock and how long it can be expected to affect the economy. an almost obvious question in the exam papers on macroeconomics that

was around 3 per cent, which is slightly higher than the previous bargaining round in 1998, when the agreements came out at around 2. 6 per cent. however, it shows that the social partners have moved closer to a non - inflationary wage agreement, despite the fact that economic activity was high when the bargaining rounds began in autumn 2000. why has the rate of wage increase been subdued over the past decade? studies made by the riksbank show that the slowing down in the rate of wage increase during the 1990s was primarily due to the fact that the formulation and organisation of monetary policy had led to lower inflation expectations ( since 1996 inflation expectations among the social partners have see, for instance, nils elvander, " industriavtalet och saltsjobadsavtalet - en jamforelse " ( the industrial agreement and the saltsjobaden agreement - a comparison ), arbetsmarknad & arbetsliv no. 3, 2002, pp. 191 - 204. gosta edgren, karl - olof faxen & clas - erik odhner, wage formation and the economy, allen and unwin, 1973. the national mediation office, " avtalsrorelsen och lonebildningen 2001 " ( bargaining rounds and wage formation 2002 ), annual report from the national mediation office, 2002. fluctuated between 1. 5 and 2. 7 per cent ) but also to the fact that the demand for labour declined in connection with the economic recession at the beginning of the 1990s. a high level of credibility for the inflation target has pushed down inflation expectations. stable inflation expectations make it easier for the social partners to negotiate new wage agreements. they do not need to worry that pay packets will contain mostly air and they have no need to safeguard by demanding high nominal wage increases, as was often the case before. the institutional changes in wage bargaining may also have contributed to more subdued wage increases. the coordination of wage bargaining rounds with centrally - established agreement levels, but a local distribution of wages, mean that the cost to society of excessive agreements is accounted for and that market forces exercise a restraining influence on wage demands at local level. the tendency towards a greater element of local wage formation has made the wage process more flexible during the 1990s. other important explanations are that new compensation methods, such as bonus wages and profit - sharing have been introduced in many areas of the labour market, which has probably increased flexibility. companies are then able to