1. 12B. FINLAND: THE EXCHANGE RATE AS AN ANCHOR OF POLICY  The postwar history of the Finnish markka is a history of many devaluations  Associated with instability (the ’devaluation cycle’) and rapid inflation  This gave rise to the view that the exchange rate should perhaps be more flexible in a symmetric manner: occasional revaluations might contain the inflationary impulses of occasionally large export price increases, which tended to cause generalized inflation through the effects on income distribution (increase in profits in the export sector) and relative wages (wage increases in the export sector spreading to the whole economy)  It was even suggested that a more flexible exchange rate should be used to keep inflation compatible with an ’inflation norm’  Some small revaluations were indeed undertaiken in 1979, 1984 and 1989

2. The markka was devalued again and again

3. The rate of consumer price inflation

4. Cont.  A second aspect was the search for some framework for monetary stability or an anchor for inflation expectations. This, it was thought, would help to achieve a more orderly and disciplined process of wage formation. Also, monetary stability might make it easier to enhance efficiency in resource allocation. (Inspiration, indirectly, from monetarism?)  A large ‘consensus’ gathering in Korpilampi was, at least symbolically, a turning point: Finland should try to avoid excessively procyclical demand management policies (but pay due attention to international competitiveness)  Another turning point was the devaluation in 1982 (actually two devaluations), undertaken in response to a large Swedish devaluation, which later was felt to have been useless or ineffective and mainly a source of inflationary pressure.  In the 1980s it became increasingly common to think that Finland should commit itself to a fixed and constant exchange rate parity (in terms of a basket of currencies) as the key policy ‘norm’. This, it was thought, would be a norm that was comprehensible for the trade unions, as these were used to pay attention to the importance of international competitiveness. The exchange rate was seen as a simple and transparent anchor for wage setting and inflation expectations.

5. Cont.  The doctrine of the stable markka gradually became a dominant dogm not only for the central bank but also for governments and much of the banking community (less so for the industrialists).  The commitment to the fixed exchange rate as a norm for policy did not work out well. One problem was that the room of maneouvre for monetary policy was constrained by the fixed exchange rate. This became particularly so as capital flows were liberalized during the 1980s.  Monetary policy was therefore unable to prevent the overheating of the economy in the late 1980s, which to a large extent was the consequence of financial deregulation (see next section).  In the early 1990s the exchange rate doctrine came under criticism for being not only a doctrine of a stable markka but also a dogm insisting on a strong markka  The commitment to the fixed exchange rate turned out to be a big problem for Finland rather than the solution to the problem of economic stability.