Price Stability and the Swedish Monetary Experiment - The Pros and Cons of a Price-Level Target

Sep 21, 2026

The commentary argues that monetary policy should aim at stable prices and evaluates the feasibility of adopting a direct price-index target. It traces how the post-1944 Bretton Woods framework collapsed due to issuers not adhering to gold price and fixed-exchange constraints, leading to persistent, variable inflation. The text explains how a price-level target could improve efficiency by reducing inflation uncertainty, indexing needs, and contract risk, while also addressing objections tied to long, variable policy-to-price lags and the frictions behind them. It highlights the Swedish Riksbank experiment of the 1930s as evidence that targeting can be workable.

LanguageEnglish

CategoryResearch & Report

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Pages5

Reading Time13 min

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Price Stability and the Swedish Monetary Experiment

The Pros and Cons of a Price-Level Target

by Susan Black and William T.Gavin M IVLany economists think that mone-tary policy should provide a stable en-vironment so that the price sysen,andthe economy,can work efficiently.TheBretton Woods agreement,adopted in1944,was an attempt to create an inter-national monetary order with the long-term price stability of a gold standardand the short-tem flexibility of a papermoney standard.Because the issuers ofpaper money did not adhere to the con-straints implied by the fixed exchangerates and the long-term commitment tothedollar price of gold,the system col-lapsed in a series of panics between thefall of 1969 and the spring of 1973. Ever since the breakdown of the agree-ment,worldwide inflation has been highand variable.Over the last 20 years,theU.S.consumer price index(CPI)hasmore than tripled.If stabilizing the pricelevel becomes the primary objective ofU.S.monetary policy,could we take adirect approach to that goal and adopt aprice-index target? This Economic Commentary discussessome of the issues surrounding price-level targeting.It also describes theSwedish monetary experiment of the1930s,a case in which the central banksuccessfully targeted a price level forseveral years.'The Swedish episodeshows not only that price-level target-ing is feasible,but that such a directapproach may be an appropriate methodof stabilizing prices. # Price Stability and the SwedishMonetary Experiment ## ■ The Pros and Cons of aPrice-Level Target Under a price-level targeting system,the central bank would likely adopt amultiyear path for a particular priceindex.²The main advantage of such asystem is that it would focus attention onwhat should be any central bank's pri-mary objective:price stability.The currentemphasis in the United States on moneymarket interest rates and M2 as inteme-diate targets is problematicbecause thesevariables are not important per se.Theyare important only as indicators of howmonetary policy is expected to affectthe ultimate goals of price stability andmaximum sustainable economic growth. The Federal Reserve cannot control out-put growth directly.Over the long run,it can raise potential output if it canmake the price system work more effi-ciently.One way to do this is to stabi-lize the value of the monetary standardso that all changes in the nominal priceof a product reflect real factors affectingdemand or supply.By eliminating theuncertainty associated with inflation,such a policy would cause the economyto operate more efficiently.For exam-ple,a stable price level would eliminatethe complicated calculations madenecessary by inflation;there would beno need to index wages,taxes,or gov-emment benefits.Investors could ignoreinflation risk and individuals couldmake long-term contracts without wor-rying about inflation changing the realtems of these arrangements. December 15,1990 During the last two decades,the con-sumer price index has more thantripled.This article examines the fea-sibility and appropriateness of estab-lishing a direct,price-index target asthe primary objective of U.S.mone-tary policy,and notes the results ofthe Swedish Riksbank's experimentwith such an approach during the1930s. The main objection to targeting a priceindex is that attempting to control pricesdirectly may destabilize both the econ-omy and the price level.This objectionis based on the idea that long and vari-able lags exist between changes in mon-etary policy and changes in prices.Ifsuch lags are an inherent part of oureconomic structure,then it may be im-possible to target a price index directly. Studies of the frictions that may beresponsible for these long and variablelags have offered several explanations.One is the presence of nominal con-tracts.People contract today for goodsand services that are to be delivered inthe future.Consumers and investorsborrow money at fixed interest rates,while workers have both explicit andimplicit labor contracts that often ex-tend beyond one year Another explanation for the lag is th

FAQs

What is a price-level targeting system and how would it guide central bank policy?

The central bank follows a multi-year path for a particular price index. It uses that path to focus policy on price stability as the primary objective.

Why do the authors say inflation uncertainty harms economic efficiency?

Inflation uncertainty forces complex calculations and can require indexing wages, taxes, and benefits. It also increases risk for investors and makes long-term contracting harder.

What objections are raised against targeting a price index directly?

The main objection is that direct price control may destabilize both the economy and the price level due to long and variable lags between monetary policy changes and price responses.

Sep 21, 2026

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