sweden ’ s position on the emu issue is unclear. in addition there has been some uncertainty about the steadfastness of long - term economic policy connected with, inter alia, continued high unemployment. the studies that have been done by the riksbank indicate that there is room for an appreciation of the krona. not only are government finances in considerably better condition than they were earlier ( in fact, sweden is one of the relatively few eu countries, which, according to the eu commission can be expected to have a budget deficit in 1997 that complies with maastricht targets with a margin ), but also sweden has a large current account surplus and the inflation forecasts are positive. despite that, the krona has depreciated by 6 to 7 per cent in effective terms since october last year. how should monetary policy handle such a situation? we can use ‘ open - mouth operations ’ and inform the markets and other players of our assessment of what has been happening. maybe this can influence developments in some measure. if the krona ’ s downward trend cannot be stopped, it will eventually have an effect on demand - - something the riksbank has to take into account when the instrumental rates are decided. accordingly, a depreciating exchange rate is an important factor that can affect the estimate of future inflation and thus the direction of monetary policy. target variable to conclude, i intend to discuss a few issues that have to do with the design and interpretation of the price stability objective. the line of argument i am going to take can hardly be perceived as controversial. even with the general support for a price stability objective that has been achieved, a number of questions of a more practical nature concerning how monetary policy should be implemented remain. price stability, as everyone realizes, may be defined in many ways, with somewhat different consequences for the execution of monetary policy. when the index for measuring inflation is chosen, a number of different considerations have to be taken into account. the index has to be reasonably broad and give a picture of price developments in the economy as a whole. it is an advantage if it is also well established and regularly published with a short time lag. in addition, it is desirable that the index is seldom revised. all these factors bear out the suitability of the consumer price index ( cpi ). thus, the riksbank ’ s inflation target has been expressed in terms of a change in the official consumer price index. figure 5 cpi an

target has functioned well in sweden and in other countries that have chosen to work with an inflation target. inflation has become low. in addition an increased understanding of a policy directed at price stability has been created in sweden as well as in other countries with an inflation target. this is especially notew orthy because many of the countries which now work with an inflation target are the very same countries that earlier had problems with inflation. when monetary policy is conducted with an inflation target, production and employment are normally stabilised too. for example, increased demand usually implies an increased rate of inflation. when inflation forecasts indicate that a risk for inflation will exceed the target, raising the instrumental rate is warranted, thereby also slowing down demand growth. in practice the room for an active stabilisation policy is circumscribed by the uncertainty about future inflation. another important complication relates to how credible the policy is. increased credibility of monetary policy creates more room for both rapidly shifting - 10 - policy in a more expansionary direction in situations of weakening demand and deferring interest rate hikes. measures to strengthen central bank independence should inter alia be seen in this light. how the exchange rate is to be managed within the framework of a policy with an inflation target is an important matter. the countries with inflation targets have different approaches. in all circumstances, it is important to assess how durable an exchange rate change is likely to be. this normally implies a picture of what caused the change. durable changes influencing the inflation forecast have to be taken into account when the instrumental rates are set. increased credibility of economic policy in general makes this problem easier to handle. the higher the credibility, the smaller the exchange - rate fluctuations are likely to be. the question of how the target is formulated and interpreted ( for example, in relation to the measures describing the underlying inflation process ) is worth discussing. several factors have to be taken into account when the target variable is chosen. first, the capacity of monetary policy exactly to forecast and control inflation in the very short run is small. second, the economy may be hit by disturbances that could create a conflict between a short - term inflation target and an ambition to stabilise the real development. third, the outcome of the cpi is not a perfect indicator of the underlying inflation trend. this problem is handled in different ways in countries having a price stabilization objective. the swedish monetary policy with a price stability objective has been successful and seems well balanced in view of present inflation forecast