foreign capital not because its national saving ratio is low, but because its investment ratio is high by the standards of developed economies ( table 2 ). in the past decade, for example, the national savings rate in australia has averaged 22 per cent, much the same as in europe and well above the figure of 15 per cent in the us and uk. over the same period, the investment ratio in australia averaged 27 per cent, whereas in most developed economies it has averaged around 20 per cent. this high ratio of investment to gdp d ’ arcy p, m shah idil and t davis ( 2009 ), “ foreign currency exposure and hedging in australia ”, rba bulletin, december, pp 1 – 10. is, i believe, an indication that australia is using foreign capital productively, and sustaining the capacity of the country to service that capital. third, credit standards, by and large, have remained robust and the amount of capital wasted through bad loans has remained limited. foreign borrowing by banks within australia ’ s total foreign liabilities, the proportion accounted for by the foreign borrowing of australian banks has increased. virtually all this rise took place through the decade of the 1990s. banks accounted for a little over 20 per cent of australia ’ s foreign liabilities in 1990 but, by 2001, this had risen to around 40 per cent. it has not changed much in the past decade ( graph 9 ). part of this trend was the result of banks adjusting their balance sheets following financial deregulation and the growth of financial markets. these developments gave banks the opportunity to move from deposit funding to various forms of funding through markets, as a way of diversifying funding sources or reducing funding costs ( graph 10 ). the growth of the superannuation industry, following government decisions to promote compulsory superannuation, probably contributed to this trend. firstly, it meant households became less inclined to hold their savings as bank deposits, and second, the pool of funds created by superannuation increased demand for securities such as bank securities. within this trend away from deposits to funding through securities markets, there were also forces that resulted in banks increasing their use of offshore funding. as an example, a substantial proportion – about 20 per cent – of superannuation savings flow offshore, mainly into foreign equities. this reduces the pool of savings available domestically to banks and, other things equal, increases the amount of offshore funding banks need to undertake. it is also an inescapable fact that,

profitability in the internationally exposed sector. it is important to be aware of the relationships between employment, output and inflation. if there is a shortage of labour and other economic resources, a tight monetary policy stance will reduce inflation by affecting aggregate demand. conversely, when unemployment is high, low interest rates stimulate demand, which will contribute to stable wages and prices. a monetary policy stance that is aimed at stabilising inflation will thus also contribute to stabilising aggregate output and employment. in the long term, monetary policy determines the average level of inflation. output is determined by the supply of labour, capital and technology and by productivity growth. attempts to increase output beyond the total capacity of the economy will lead to inflation in the long run. what monetary policy can do is to maintain stability without unnecessary fluctuations in output and employment. overall employment is also influenced by wage formation. if wages increase at an unsustainable pace, employment will decline and unemployment will gradually increase. monetary policy cannot prevent an increase in unemployment that is due to a wage - driven cost shock. when there is confidence that monetary policy will contribute to low and stable inflation over time, it can contribute in the short term - under certain conditions - to smoothing fluctuations in output and demand. in the short term, there is a trade - off between the objectives of inflation stability on the one hand, and output and employment stability on the other. an aggressive monetary policy will rapidly bring inflation to the target. this will cause wide fluctuations in the real economy. the interest rate can also be changed more gradually, which will have less impact on the real economy but cause more pronounced fluctuations in inflation. by influencing inflation over time, we can ensure that an overly aggressive monetary policy does not in itself cause unnecessary disturbances to the economy. the impact of monetary policy occurs with considerable and variable lags. our analyses indicate that a substantial share of the effects of an interest rate change will occur within two years. two years is thus a reasonable time horizon for achieving the inflation target. it is nevertheless conceivable that in a situation where a very high rate of inflation is accompanied by sluggish economic growth, norges bank may decide to apply a somewhat longer time horizon than two years to reach the inflation target of 2½ per cent. the choice of monetary policy time horizon reflects the fact that there are real economic costs associated with bringing inflation rapidly back to the target. this horizon is thus an indirect expression of the trade - off between the objectives of, on