a whole, in order to attempt to prevent serious shocks. persistent inflation is the result of lax monetary stance there are good reasons for assigning central banks a single main objective, namely to promote price stability. inflation is primarily a monetary phenomenon. short - lived inflation can have many causes, but persistent inflation is the consequence of a lax monetary stance. in the long run, monetary policy therefore primarily has an effect on prices. under normal conditions it only has a temporary impact on economic growth and employment. since central banks broadly speaking have only one instrument, i. e. interest rates, and can therefore only achieve a single long - term macroeconomic goal, it is natural to set price stability as the ultimate monetary goal. this is not to say that price stability is a more important goal than, say, full employment, but simply that monetary policy instruments are inherently better suited to impacting prices. it is pointless to set objectives for monetary policy which it cannot achieve. through price stability, a forward - orientated monetary policy can contribute towards creating a stable economic environment on which the long - term growth potential of the economy, namely growth and prosperity, is based. the reason that central banks can have a widespread effect on interest rate formation in the markets through their interest rate decisions is that they have the exclusive right to issue money in the economy, i. e. base money. by controlling the price of base money, i. e. the interest terms at which financial institutions can borrow short - term capital from them, central banks can influence the volume and price of liquidity in the financial system. central bank interest rate decisions have an impact on short - and long - term interest rates, financial system liquidity, money in circulation and bank lending, exchange rates of currencies, other asset prices and, last but not least, market participants ’ expectations about the future development of all these factors. all this, in turn, influences consumption and investment decisions of individuals and businesses, and thereby aggregate demand. the impact in individual areas can vary greatly from one time to the next. the new central bank act the previous central bank act dated from 1986 and was drafted over the period 1981 to 1984. it was a product of its time and did not reflect the perspectives that later established themselves. in the early 1990s the then minister of commerce appointed a committee to review the central bank act, chaired by professor agust einarsson, the current dean of the faculty of economics and business administration. following the committee ’ s

ministries with which the bank works most closely – in particular, the ministry of finance and economic affairs, which now is responsible within the ministries for the affairs of the central bank. in this context, i wish to thank the two ministers who have led the ministry of finance and economic affairs since this arrangement was introduced. i would also like to thank the parliament of iceland, particularly the economics and commerce committee, for their cooperation during the year. thanks are due as well to the financial supervisory authority for growing collaborative relationship. i thank the outgoing supervisory council for good cooperation. and last, but certainly not least, i would like to thank the staff of the central bank for their hard work and excellent contribution during the year. bis central bankers ’ speeches