Inflation target

Tolerance limits
The aim is to keep the rate of inflation on average as close to the target as possible. If it deviates by more than 1½% in either direction, the Central Bank is obliged to present the Government with a report, which will be made public, explaining the reasons for the deviation from the target and the Bank's responses to the deviation. However, over the period 2001-2002 the upper tolerance limit was wider, at 3½% until the end of 2001 (corresponding to 6% inflation) and 2% until the end of 2002 (corresponding to 4½% inflation).

Approaches
The Central Bank's main instrument for attaining its inflation target is the interest rate on its loans to the financial undertakings against collateral. The Bank can also buy or sell foreign currency in the interbank market with the aim of influencing the exchange rate of the króna and thereby domestic inflation.

Other objectives
The Central Bank's inflation target takes priority over other objectives. Nonetheless, the Bank is obliged to promote the government's policies insofar as they do not conflict with the inflation target. Furthermore, the Central Bank should undertake tasks, which are consistent with its central banking functions, such as maintaining the foreign reserve and promoting an effective and reliable financial system, including payments systems. Other tasks include the issue of notes and coin, regulation of foreign exchange markets, etc., cf. the provisions in legislation on the Bank.

References
The new framework for monetary policy, Monetary Bulletin 2001/2
Thórarinn G. Pétursson: Exchange rate or inflation targeting in monetary policy?, Monetary Bulletin 2000/1