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mistake that a central bank makes is not failing to stop a bubble, but is rather not responding fast enough after a bubble bursts ". 6 15. i feel inclined towards the indirect approach to asset prices ; namely that monetary policy should be oriented toward enhancing price stability and smoothing fluctuations in gdp gap, while refraining from targeting asset prices directly, given the limited knowledge to correctly detect fundamental asset prices. there are a number of hurdles before a direct or preemptive approach can be adopted. these include the identification of a bubble, serious macroeconomic consequences ( such as a severe financial crisis after the bubble bursts ), the adequacy of using interest rate policy to deflate the bubble, and public support. however, i am not yet fully convinced by the argument that all the problems japan faced at that time would have been solved by the adoption of a flexible inflation targeting policy alone. lessons from the asset price bubble of the 1980s 16. now let me draw several lessons from the boom and bust of asset prices in the latter half of the 1980s. first, we should give priority to price stability as a policy objective over the apprehension of exchange rate fluctuations and the external imbalance. at that time, japan's current account surplus, coupled with the u. s. deficit, was perceived to be one of the major macro - economic policy issues, although the theoretical underpinning for rectifying the external imbalance was not solid enough. 7 moreover, a proposal on targeting the exchange rate was seriously debated in an attempt to solve the current account imbalance. 8 giavazzi and mishkin further mentioned, as the second lesson, the procrastination on the part of the japanese government in restoring the health of the financial system after the bubble burst. iwata ( 1991 ) carried out a simulation exercise on the future development of the u. s. - japan external imbalance based on the overlapping generations model in an open economy. the simulation results showed the possibility of long - sustained imbalance until the mid - 2020s, mainly reflecting economic fundamentals such as the difference between the two countries in saving ratio, productivity and population growth rate. according to prof. taylor ( 2007 ), the exchange rate policy of the u. s. government is today guided by several principles : ( 1 ) it must be supported by sound domestic policies, ( 2 ) it should rely on markets with a minimum of intervention, ( 3 ) it should minimize verbal intervention, ( 4 ) there is