The Executive Board's monetary policy decision – background and general assessment
Meeting 24 September 2008
The Executive Board placed emphasis on the following new information that has emerged since the previous monetary policy meeting on 13 August:
- The financial market crisis has intensified. In the US, the government has placed the home loan mortgage corporations Fannie Mae and Freddie Mac into conservatorship. The aim of the conservatorship decision is to stabilise their business operations and return them to normal. The corporations own or guarantee about 40 per cent of the US mortgage market. The Federal Reserve has provided the insurance corporation AIG with access to a credit line in amounts up to USD 85 billion over two years. The loan is collateralised by all of the assets of the company. Several large financial institutions have been purchased and the US investment bank Lehman Brothers has filed for bankruptcy. In the US, the Department of the Treasury has proposed the establishment of a fund to purchase mortgage-related assets with a high risk of default. The Department of the Treasury has asked Congress to allocate USD 700 billion to this fund.
- The three-month money market rate in Norway has varied between 6.5 and 7.0 per cent in the past week. Liquidity in the interbank market has at times been very tight. In particular, there is a considerable shortage of US dollar liquidity, especially during European business hours. This has resulted in wide swings and high premiums in short-term interest rates. A number of central banks, including Norges Bank, have provided US dollar liquidity to address the abnormal situation in the money market.
- The premiums Norwegian financial institutions have to pay on credit market funding have increased further. Norwegian banks’ weighted lending rate on new home mortgages with sound collateralisation has increased by close to 0.3 percentage point to almost 7.4 per cent.
- Inflation remains high in many countries, but inflation expectations in the US and Europe have receded somewhat from the high levels prevailing in summer.
- Growth in the world economy is turning down. In emerging economies, growth is still high, but slowing.
- Market participants now expect that central bank interest rates will be cut among most of our trading partners. In the US, market participants have priced in an interest rate cut around the turn of the year and interest rate hikes from summer next year. In Sweden, the central bank key rate has been raised.
- Equity prices have fallen in Norway and abroad. The Oslo Stock Exchange benchmark index has fallen by 9.6 per cent.
- Oil prices fell markedly up to 16 September, but have since risen again. The spot price of Brent blend oil is USD 101 per barrel. The average futures price for delivery in 2009 is USD 107 per barrel.
- The Economist commodity-price index has fallen by 6 per cent measured in XDR (1). By the same measure, food prices have fallen by 4 per cent and the price of fresh salmon by 4 per cent, while the price of frozen salmon has risen by 6 per cent. Industrial metals prices have fallen by 7 per cent measured in XDR, and the price of aluminium has fallen by 10 per cent. Dry cargo freight rates have fallen by 33 per cent in XDR terms.
- The krone exchange rate has depreciated. Volatility in the foreign exchange market has increased markedly. Reduced risk appetite among market participants has contributed to increased krone selling as the krone is considered to be a currency with limited liquidity. The average for the import-weighted krone exchange rate so far in the third quarter is 1.9 per cent weaker than in the second quarter. Since the monetary policy meeting in August, the exchange rate has depreciated by 2.4 per cent.
- The year-on-year rise in the consumer price index (CPI) was 4.5 per cent in August. Adjusted for tax changes and excluding temporary changes in energy prices (CPIXE), consumer prices rose by 3.4 per cent over the past 12 months (2). Adjusted for tax changes and excluding energy products (CPI-ATE), consumer price inflation was 2.8 per cent. Measured by a trimmed mean of the 12-month rise in the sub-indices in the CPI, inflation was 3.6 per cent in August, while a weighted median showed a rise of 3.1 per cent.
- In August, seasonally adjusted registered unemployment stood at 1.6 per cent of the labour force, unchanged from the previous month. According to Statistics Norway's labour force survey (LFS), seasonally adjusted unemployment was 2.6 per cent of the labour force in June (in the three-month period May-July), up from 2.5 per cent in the previous month. The labour force expanded by 2000 in the same period, while employment has remained unchanged since April. In August this year, the number of non-nationals with a work permit registered by the Norwegian Directorate of Immigration had risen by almost 26 000 compared with the same time last year.
- According to preliminary quarterly national accounts figures, mainland GDP rose by a seasonally adjusted 0.8 per cent from the first half of 2007 to the first half of this year. Excluding taxes, the increase was 1.0 per cent, while growth excluding both electricity production and taxes was 1.2 per cent. Growth in labour force productivity has slowed over the past year.
- Manufacturing production increased by a seasonally adjusted 1.4 per cent in the period May-July compared with the previous three months. According to the investment intentions survey for the third quarter, manufacturing investment for this year is estimated at NOK 33.5 billion at current prices. Compared with the estimates for last year, the survey indicates a rise of 21.1 per cent for the current year. Investment in 2009 is estimated at NOK 22.4 billion, 5.3 per cent lower than the estimate for 2008 published at the same time last year. According to order statistics for manufacturing, the value of new orders fell by 7.3 per cent from the second quarter last year to the same quarter this year. Order reserves now seem to be levelling off after rising over the past few years.
- According to the investment intentions survey for oil and gas production, including pipeline transport, total investment this year is estimated at NOK 128.2 billion at current prices, or value growth of 17 per cent since last year. Investment for 2009 is now estimated at NOK 132.8 billion, which is an increase of 11.5 per cent on the estimate for 2008 published at the same time last year.
- The enterprises in Norges Bank’s regional network report slower growth and some decline in most regions and industries. Capacity utilisation is high, but moving down. Labour supply conditions are reported to be slacker, and employment is expected to remain stable. The rise in prices has picked up markedly, but is expected to slow ahead. Weaker price expectations are particularly noticeable in the construction industry, retail trade and corporate services.
- Total credit to non-financial enterprises rose by 16.7 per cent in the year to June 2008, down from 18.4 per cent in May. The growth in money supply to the enterprise sector was 4.9 per cent in the year to July 2008.
- Household gross domestic debt increased by 9.4 per cent in July compared with the same month one year earlier. Annualised, household gross domestic debt grew at a rate of 7.4 per cent in the period May-July compared with the previous three months.
- According to preliminary figures for household income accounts, household nominal disposable income excluding dividend income was 6.2 per cent higher in the last four quarters to the second quarter of this year compared with the same period one year earlier, up from 5.6 per cent in the first quarter. By the same measure, the household saving ratio excluding dividend income increased from -2.4 per cent to -1.9 per cent.
- Household spending on goods fell by a seasonally adjusted 1.3 per cent from June to July, after declining by 0.8 per cent from May to June. In July, goods consumption was 1.4 per cent above the level in the same month one year earlier.
- Building statistics showed that measured in square metres housing starts decreased by 23.2 per cent in July this year compared with the same month one year earlier, while other building starts decreased by 22.8 per cent.
- According to the real estate industry’s house price statistics, house prices fell by a seasonally adjusted 1.1 per cent from July to August. This was the fifth consecutive month of decline. Prices were 4.1 per cent lower than in August 2007.
Inflation has picked up markedly since autumn 2007. In recent months, the year-on-year rise in consumer prices has been around 4½ per cent. Underlying inflation now seems to be a little less than 3½ per cent. This is higher than expected and well above the inflation target of 2.5 per cent. Wages are rising rapidly and productivity growth seems to be slackening faster than previously assumed. At the same time, the krone exchange rate has weakened. There are prospects that inflation may remain high over a period ahead.
On the other hand, growth prospects for the industrial countries have weakened. The crisis in financial markets has deepened. Equity prices have declined markedly worldwide. The risk of a long economic downturn in industrial countries has increased. Against this background, market participants have lowered their central bank interest rate expectations. Prices for key commodities have declined further. In Norway, there are also clear signs that economic growth is slowing. Even though manufacturing production is still growing at a solid pace, domestic capacity utilisation is drifting down. Household demand has stagnated. Premiums on money market rates have risen markedly, and the cost of corporate and household borrowing has increased. Norges Bank has provided liquidity in both Norwegian kroner and US dollars to curb the swings in the Norwegian money market and contribute to orderly market conditions.
The analysis in Monetary Policy Report 2/08 indicated that the key policy rate will remain at the current level, or perhaps somewhat higher, in the coming year. The Executive Board’s strategy is that the key policy rate should be in the interval 5¼ - 6¼ per cent in the period to the publication of the next Report on 29 October, unless the Norwegian economy is exposed to major shocks. There is now an unusually high degree of uncertainty linked to the turbulence in financial markets. There are wide daily swings in money market rates, equity prices, the krone exchange rate and oil and commodity prices. It is difficult to determine how long this pressure will last and the effects on inflation and activity in the Norwegian economy.
An overall assessment indicates that it is appropriate to maintain the interest rate unchanged at this meeting.
The key rate is maintained unchanged at 5.75 per cent.
1) Special drawing rights, IMF. Currently, XDR is comprised of 40 per cent USD, 39 per cent EUR, 11 per cent GBP and 101 per cent JPY. As of 23 September, XDR 1 = NOK 8.8.
2) The CPIXE figure in August is based on information about futures prices for oil and electricity over the last ten trading days in August. Updated estimates of the CPIXE will now be published on Norges Bank’s website at 2 p.m. on the same day Statistics Norway publishes the Consumer Price Index (CPI). The estimates will be based on information about futures prices in the month of the most recently estimated CPI figure.
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