The Executive Board's monetary policy decision – background and general assessment
Meeting 17 December 2008
The Executive Board placed emphasis on the following new information that has emerged since the previous monetary policy meeting on 29 October:
- GDP fell in most large economies in the OECD area in the third quarter. Economic growth has also slowed in China and other emerging economies.
- Central banks and other institutions have lowered their economic growth forecasts for next year. The IMF published new, downward revised forecasts in November. The forecast for global growth in 2009 was reduced from 3.0 per cent in October to 2.2 per cent. For advanced economies, the growth forecast has been reduced from 0.5 per cent to -0.3 per cent. This will then make 2009 the first year after the Second World War that total GDP for advanced economies is in decline. The growth forecast for emerging economies and developing countries has been lowered from 6.1 per cent to 5.1 per cent. The IMF has stated that these forecasts are likely to be revised down further in January. The OECD has projected a fall in GDP of 0.4 per cent for the OECD area as a whole in 2009. Growth is then projected to rebound to 1.5 per cent in 2010.
- Consumer price inflation abroad has moderated and short-term inflation expectations have shown a marked fall.
- The authorities in many countries have announced comprehensive fiscal measures to stimulate economic activity.
- Key policy rates have been cut sharply in many countries. Sveriges Riksbank moved forward its monetary policy meeting by two weeks in December and reduced its key policy rate by 1.75 percentage points to 2.00 per cent. The Riksbank expects its key policy rate to remain at that level through next year. The Federal Reserve has lowered the federal funds rate from 1.50 per cent to a level of 0 – 0.25 per cent. In the UK, the Bank of England has cut its key rate by 2.50 percentage points to 2.00 per cent, while the European Central Bank has lowered its key rate by 1.25 percentage points to 2.50 per cent. In New Zealand and Australia, rates have been cut by 1.50 and 1.75 percentage points respectively. In Canada, the key rate was lowered by 0.75 percentage point. Market participants expect further rate cuts among most of our trading partners.
- Premiums in money market rates abroad have edged down, but are still high. The premium in three-month money market rates in the US has averaged 1.9 percentage points over the past five trading days.
- In Norway, money market rates have fallen for most maturities, but have shown wide day-to-day variations. Over the past five trading days, three-month NIBOR has fluctuated between 5.0 and 4.4 per cent. Money market premiums have also fallen somewhat. Over the past five days, the premium in three-month money market rates has averaged 1.3 percentage points. So far in the fourth quarter, three-month NIBOR has been 6.3 per cent, which is 0.4 percentage point lower than projected in Monetary Policy Report 3/08.
- Norwegian banks’ weighted lending rate on new high-quality residential mortgages has declined by 1.4 percentage points to almost 6.0 per cent.
- Norges Bank has continued to provide liquidity to banks. In addition to ordinary F-loans, Norges Bank has auctioned two-year F-loans specially geared to small banks. Norges Bank has also provided NOK loans secured in US dollars and euros through swap agreements.
- Norges Bank has lent US dollars to banks established in Norway. The loans have been provided against collateral in the form of securities already approved by Norges Bank.
- On behalf of the Ministry of Finance, Norges Bank has conducted four auctions under a swap arrangement where Treasury bills are exchanged for covered bonds (OMFs). Treasury bills have been allotted in a total amount of NOK 42 billion. The auction interest rates were 5.86, 5.68, 5.23 and 4.70 per cent respectively.
- Equity prices have fluctuated considerably in Norway and abroad. The benchmark index on the Oslo Stock Exchange has fallen by 2.2 per cent since the previous monetary policy meeting. The benchmark index has fallen by about 59 per cent since the peak in May.
- Oil prices have continued to fall. The spot price of Brent blend oil has averaged USD 43 per barrel in the past five trading days, a decline of 34 per cent since the previous monetary policy meeting. Over the past five trading days, oil futures prices for 2009 have averaged USD 53 per barrel, a decline of 25 per cent since the previous monetary policy meeting.
- The Economist commodity-price index has fallen by 17 per cent measured in XDR (1) since the previous monetary policy meeting. By the same measure, prices for industrial metals have fallen by 26 per cent, and the price of aluminium has fallen by 33 per cent. Dry cargo freight rates have fallen by 15 per cent in XDR terms.
- The krone has depreciated further. The import-weighted exchange rate has averaged 100.1 in the past five trading days, which is 4.3 per cent weaker than at the time of the previous monetary policy meeting. So far in the fourth quarter, the krone exchange rate has averaged 97.5 against a projected 96.0 in the previous Report. The NOK market has been thin and fluctuations in the krone exchange rate have been unusually wide.
- The year-on-year rise in the consumer price index (CPI) was 3.2 per cent in November, 0.3 percentage point lower than projected in the previous Report. Adjusted for tax changes and excluding temporary changes in energy prices (CPIXE), consumer prices have risen by 2.9 per cent over the past twelve months, 0.6 percentage point lower than projected in the previous Report.
- According to the quarterly national accounts, overall public and private sector wages per normal person-year rose by 6.2 per cent from the third quarter of 2007 to the third quarter of 2008.
- In November, seasonally adjusted registered unemployment stood at 1.9 per cent of the labour force, 0.1 percentage point higher than in October. The supply of job vacancies fell markedly in November. According to Statistics Norway’s Labour Force Survey (LFS), seasonally adjusted unemployment was 2.5 per cent of the labour force in September, up from 2.4 percent in the previous month. Employment decreased by 1000, while the labour force expanded by 1000 in the same period.
- The government has entered into an agreement with Eksportfinans to provide government loans of up to NOK 50 billion over two years and has expanded GIEK’s (Norwegian Guarantee Institute for Export Credits) guarantee scheme. The government has announced that it will propose new fiscal measures over the central government budget in early 2009.
- Preliminary quarterly national accounts figures show that mainland GDP adjusted for seasonal patterns expanded by 0.2 per cent from the second to the third quarter of 2008, measured at market prices. At basic prices, growth was 0.7 per cent. Overall, this is approximately in line with the projections in the previous Report. If the level of mainland GDP remains unchanged to the end of the year, annual growth in 2008 will be 2.4 per cent, at market prices. Labour productivity at basic prices was 0.6 per cent lower in the third quarter than in the third quarter of 2007.
- Enterprises in Norges Bank’s regional network reported an overall decline in production in all sectors except the petroleum supply industry. Capacity utilisation is slowing. Production and employment are expected to fall ahead, and the share of enterprises that will reduce investment and employment in 2009 has increased markedly. The share of enterprises that expect labour constraints on production decreased from 37 per cent in August to 16 per cent in November.
- According to the investment intentions survey for oil and gas extraction, including pipeline transport, total investment for 2008 is estimated at NOK 127 billion at current prices. This implies value growth of 16 per cent between 2007 and 2008. Investment in 2009 is estimated at NOK 146 billion, which is 15 per cent higher than estimated for 2008 at the same time last year.
- According to Statistics Norway’s investment intentions survey for manufacturing, mining and the power supply industry, estimated manufacturing investment in 2008 is NOK 33 billion at current prices. This is 23 per cent higher than projected for 2007 at the same time last year. Manufacturing investment in 2009 is estimated at NOK 25 billion, which is 10 per cent lower than projected for 2008 at the same time last year.
- Seasonally adjusted manufacturing production was 0.9 per cent lower in the period August-October than in the three preceding months. Production of intermediate goods slowed, while production of capital goods and consumer goods increased somewhat.
- According to order statistics for manufacturing, the value of new orders fell by 15.0 per cent between the third quarter of 2007 and the third quarter of 2008. The value of order reserves rose by 14.5 per cent in the same period.
- The Norwegian PMI (Purchasing Managers Index), published jointly by NIMA (Norwegian Association of Purchasing and Logistics) and Fokus Bank, fell further between October and November. The fall in the orders index may indicate that output will continue to fall ahead.
- According to building statistics, the number of housing starts fell by 30 per cent in October compared with the same month in 2007. Measured by utility floor space, the decrease was 32 per cent. Other property starts were 12 per cent lower in October than in the same month one year earlier. Housing starts are now approximately as projected in the previous Report, while other property starts are somewhat higher than projected.
- According to house price statistics from the real estate industry, seasonally adjusted house prices, after decreasing by 3.5 per cent the previous month, fell by 1.4 per cent from October to November, the eighth consecutive month of decline. House prices in November were 9.0 per cent lower than in November one year earlier.
- The gross domestic debt of the corporate sector excluding financial institutions rose by 19.1 per cent from October 2007 to October 2008.
- Household gross domestic debt increased by 8.2 per cent from October 2007 to October 2008, compared with 8.8 per cent in September. Annualised, household gross domestic debt grew at a rate of 7.2 per cent in the period August-October compared with the previous three months.
- According to preliminary household financial accounts, household nominal disposable income excluding dividend income was 5.8 per cent higher in the last four quarters up to and including the third quarter of 2008 compared with the same period last year. The household saving ratio excluding dividend income was in the four-quarter period up to and including the third quarter of 2008 -2.5 per cent, down from -2.2 per cent in the second quarter.
- Household spending on goods fell by a seasonally adjusted 1.0 per cent from September to October. So far this year, spending on goods has decreased by 3.5 per cent. The volume of retail sales, excluding motor vehicles and petrol, fell by a seasonally adjusted 0.9 per cent from September to October.
- Leading indicators of spending on services show a decline. Hotel occupancy rates in October were 2.2 per cent lower in October than in the same month in 2007. Air traffic slowed in November. Figures from Avinor show that domestic air traffic in November was 7.4 per cent lower than at the same time last year. International air traffic fell by 5.8 per cent in the same period.
- TNS Gallup’s trend indicator, which measures households’ assessments and expectations concerning their financial situation and the Norwegian economy, fell sharply from the third to the fourth quarter of 2008.
At the monetary policy meeting on 29 October, the Executive Board’s strategy was that the key policy rate should be in the interval 4 – 5 per cent in the period to the publication of the next Monetary Policy Report on 25 March, unless the Norwegian economy was exposed to new major shocks. The Norwegian economy is now exposed to new major shocks. In the course of November and December, international and domestic growth prospects have weakened considerably. Oil prices and other commodity prices have dropped sharply. An active liquidity policy and the covered bond swap arrangement are dampening the impact, although premiums remain high and liquidity tight in money and credit markets, and it is difficult for the business sector to procure funding. Growing pessimism is weighing down households and firms. Enterprises in Norges Bank’s regional network are expecting a fall in production and employment in the next quarters. Inflation is slowing faster than expected, and the risk of inflation becoming too high ahead has been reduced. It is of decisive importance for economic stability that inflation is expected to remain low and stable ahead. A credible inflation target and expectations of low and stable inflation now make it possible to use monetary policy actively to dampen the impact of the financial crisis on the Norwegian economy.
Growth among our trading partners has contracted to a further extent than expected. The economic downturn abroad may prove to be deeper and longer than previously anticipated. At the same time, inflation has edged down, and inflation expectations ahead have been lowered considerably. Key policy rates have been substantially reduced to mitigate the effects of the financial crisis and to prevent deflation. Market participants expect further rates cuts.
In Norway, economic growth next year also seems to be considerably lower than projected at end-October. The risk of a pronounced downturn in the Norwegian economy has increased. Weaker growth abroad and the fall in commodity prices will push down petroleum investment and reduce activity in the export industry. Combined with funding constraints, this will have broadening effects on activity in the Norwegian business sector. Households have lowered their expectations as to their own financial situation and the domestic economy, and consumption is weakening. Fiscal measures will curb the fall in demand.
Inflation is moving down and was lower than expected in November. Underlying inflation is now around 3 per cent. Over the coming years, wage growth is likely to be considerably lower than projected in October. Lower demand may also induce enterprises to be more cautious with regard to passing on costs to prices. At the same time, the sharp fall in commodity prices and lower inflation abroad will contribute to reducing the rise in prices for imported goods. The drop in energy prices will also push down consumer price inflation.
On the other hand, the krone exchange rate has been weaker than expected. Participants in the foreign exchange market have reduced their exposures in less liquid currencies such as the Norwegian krone. In addition, the fall in oil prices has probably contributed to the fall in the value of the krone. The weak krone is dampening the impact of the international downturn on the internationally exposed sector. The value of the krone is expected to remain fairly low for a period ahead, but is expected to increase as financial market conditions improve. Should the krone remain weak for a long period, this may influence inflation expectations and subsequently have implications for interest rate setting.
On balance, there are prospects that inflation may fall below 2.5 per cent in the course of the year ahead. The dual consideration of stabilising inflation around the inflation target and stabilising developments in output and employment now suggests a markedly lower interest rate and possible further interest rate cuts over the next half-year. At the same time, there is considerable uncertainty as to how deep and long the downturn will be and it is difficult to project the probability of different outcomes. It may thus be appropriate to implement measures that can reduce the uncertainty and stave off a particularly adverse outcome for the economy. This implies a more active monetary policy than normal.
- The key policy rate should be in the interval 2 – 3 per cent in the period to the publication of the next Monetary Policy Report on 25 March, unless the Norwegian economy is exposed to new major shocks.
- The key policy rate is reduced by 1.75 percentage points to 3.00 per cent with effect from 18 December 2008.
1) Special drawing rights, IMF. Currently, XDR is comprised of 41 per cent USD, 37 per cent EUR, 9 per cent GBP and 13 per cent JPY. As of 15 December XDR 1 = NOK 10.5.