players is marginal. the instrument available to norges bank for influencing economic fundamentals is the interest rate. if the exchange rate comes under pressure, norges bank can counter this over time by adjusting interest rates. however, we must take into account that in the long run the krone exchange rate cannot deviate substantially from the level implied by economic fundamentals. we must therefore to some extent expect a change in the krone exchange rate in response to major changes in our terms of trade. norges bank ’ s mandate has been formulated in the light of the experience of a fixed exchange rate policy earlier in the 1990s. this experience does not imply that the central bank is to conduct a traditional fixed exchange rate regime, with established fluctuation margins and the obligation to intervene, as reflected in the mandate. norges bank will orient monetary policy ‘ towards maintaining a stable krone exchange rate against european currencies ’. however, it is taken into account that the krone exchange rate will vary. the exchange rate regulation therefore states that ‘ in the event of significant changes in the exchange rate, monetary policy instruments shall be oriented with a view to returning the exchange rate over time to its initial range ’. we must learn from the situation that arose in the autumn of 1996 and winter of 1997 when strong appreciation pressures prompted norges bank to reduce its key rates. norges bank ’ s first response to such appreciation pressures is to provide advice concerning changes in the budget. norges bank will orient its instruments towards maintaining a stable krone exchange rate. we must not allow ourselves to be blinded by daily exchange rate quotations. the experience of recent years shows that norges bank must take into account the fundamental conditions for exchange rate stability over time. the krone is influenced by unrest in international financial markets, changes in oil prices, inappropriate fiscal policy responses and high cost increases peculiar to norway. norges bank cannot fine - tune exchange rate movements through exchange market interventions. this means that the krone exchange rate will fluctuate. it is up to norges bank to evaluate the best means of returning the krone to its initial range. this also means that the bank must exercise a large degree of discretion when using the bank ’ s instruments, essentially the interest rate. in exercising its discretion, norges bank emphasises the fundamental conditions for exchange rate stability. there are two fundamental conditions necessary for achieving stability against european currencies. first, price and cost inflation must fall to the level aimed at by

price and cost inflation. this will often give rise to situations where the krone depreciates, thereby undermining the credibility of our monetary policy. there is a price to be paid for this. market participants will lose confidence in the krone and demand a higher interest rate for maintaining krone positions rather than switching to other currencies. the result is a permanently higher interest rate level in norway compared with other countries. intricate relationships earlier, monetary policy was based on extensive use of interventions – in other words, purchases and sales of foreign exchange in order to defend the krone exchange rate. denmark has used this instrument with positive results. there are probably many reasons for this in addition to its stable terms of trade. for instance, fiscal policy in denmark has on numerous occasions made a substantial contribution to exchange rate stability. over time our experience of large - scale and persistent interventions has been mixed. when the central bank intervenes heavily to defend the krone, market participants may easily move into a game situation and perceive central bank intervention as an interesting opportunity to make a profit. market operators know that a situation in which the krone is being propped up only because norges bank is buying kroner cannot continue. it is then tempting to take reverse positions in the foreign exchange market in relation to the central bank. this means that heavy and prolonged interventions may intensify the pressure on the krone over time, steadily increasing the necessary volume of intervention purchases. the foremost example of such a game situation in norway ’ s exchange rate policy history was friday 20 november 1992, when norges bank made intervention purchases for nok 37 billion from the time the market opened until the time it closed. intervention purchases amounting to nok 14 billion were also made the previous day after sweden allowed its currency to float. norges bank had thereby depleted its foreign exchange reserves by more than nok 50 billion in the course of six trading hours over two days. norges bank does not want to intervene in such a way that this type of game situation arises. nor can we expect other central banks to help us to an extent that makes a decisive contribution to our resistance. however, the bank may use interventions to a limited extent if the krone moves substantially out of line with what we consider to be reasonable based on fundamentals or in the event of exceptional short - term volatility in thin markets. in such situations, we must assume that the risk of ending up in a game situation against exchange market