Consultative statement regarding NOU 2000:21 A strategy for employment and value added
The following document was submitted to the Ministry of Finance on 19 October 2000
Reference is made to the letter of 14 August 2000 from the Ministry of Finance inviting comments from Norges Bank on the recommendations of the Commission for Employment and Value Added, NOU 2000:21.
The Commission's starting point was the main conclusions of the Arntsen Commission. This implies that the exposed sector should remain a wage leader and that labour cost growth in Norway should over time be in line with that of trading partners. The Commission points to the experience of the 1990s which showed that the division of responsibilities in the Solidarity Alternative between fiscal policy, monetary policy and incomes policy cooperation has proved vulnerable in the face of instability in the real economy. Norges Bank concurs with the Commission's view that the main components of stabilisation policy should be formulated to ensure their robustness. An important means to this end will be a framework where the annual wage negotiations feature a long-term approach. The principles laid down by the Arntsen Commission appear to provide for such an approach. The Commission also emphasises that structural policy measures and the economy's restructuring capacity may affect economic growth and improve the economy's self-regulatory capacity. In this connection the Commission points out that the instruments available to the authorities, including competition policy, public ownership in the business sector, the design of the tax system, state aid to industries, trade agreements and transport and communications policy, must promote high value added.
Norges Bank supports the main features of the Commission's evaluations. In the follow-up of the Commission's work, the Bank would draw attention to the Commission's assessment of the possible contribution of monetary and fiscal policy, and the potential contribution of the social partners. In the chapter entitled "Macroeconomic stability" (section 11.2.1) the Commission writes:
"The primary aim of incomes policy cooperation in the long-term is to contribute to the lowest possible structural unemployment. In other words, the aim should be to maintain real wage growth in line with productivity growth in the economy as a whole while keeping unemployment as low as possible.
The long-term role of monetary policy is to secure a nominal anchor for the economy. According to the Exchange Rate Regulation, Norges Bank shall maintain a stable krone exchange rate against European currencies, in practice the euro, and this means that in the long term inflation in Norway must be roughly on a par with inflation in the euro area.
The long-term consequences of fiscal policy from a macroeconomic perspective relate primarily to the distribution of resources between the public and private sector, as well as to the level of public and national saving. However, public sector funding and how the public sector uses its resources also affect the level of private production and economic growth, cf. Chapter 13."
Norges Bank would point out that the social partners, through income settlements, are in a position to influence the total level of employment over time. Compared with other countries, Norway has generally had a low unemployment level and a high labour force participation rate during the past twenty-five years. One feature of wage determination in Norway has been the considerable emphasis placed for long periods on cost competitiveness in wage negotiations, even for wages in sectors that are not exposed to strong competition from abroad. This has contributed to stability in terms of the framework for exposed industries and for employment. Against this background, Norges Bank is of the view that the most important contribution incomes policy cooperation can make is to ensure that structural unemployment in Norway remains low and employment high.
Fiscal policy can influence fluctuations in production and employment. In the long term, the structure of fiscal policy, including the tax system and public investment, can influence the growth potential of the economy. Furthermore, the growth in the public sector called for by the authorities will influence the distribution of labour and capital across sectors. However, in the absence of substantial unutilised reserves of labour or capital, stabilisation policy measures are not suitable for influencing the total level of production and employment over time. An expansion of the public sector in an economy with high capacity utilisation will eventually result in a corresponding reduction in the level of activity in the private sector.
Over time, monetary policy can influence price developments. Wage determination can influence employment. The distribution of resources to the sheltered sector and the exposed sector can be influenced through fiscal policy. Over time, the size of the exposed sector will be determined by a contest between the public sector and the business sector for economic resources.
In the short term, both monetary policy and fiscal policy can influence developments in employment, price inflation and the distribution of resources across sectors. Fiscal policy plays an important role for the stability of the krone and for Norwegian interest rates. Hence, it is essential that the policy mix is appropriate. In this connection Norges Bank would point to one of the main elements of the Commission's overall strategy for higher value added and high employment (chapter 1.2 entitled "Objectives and main elements of the Commission's strategy for higher value added and high employment"):
"Fiscal and monetary policy must be used to stabilise cyclical developments. Over the past twenty years the Norwegian economy has been marked by more pronounced cyclical fluctuations than previously. These fluctuations entail considerable economic costs. It is therefore important that fiscal and monetary policy contribute to stabilising cyclical developments, not least in order to prevent temporary cyclical downturns from translating into sustained unemployment problems. The contribution of fiscal policy must be consistent with the objective of a long-term balance between the public and private sector, while the contribution of monetary policy must be consistent with the objective of stability in the krone exchange rate over time. Wage determination must ensure that any cyclical fluctuations are not amplified by the outcome of wage settlements."
Norges Bank concurs with this assessment. At the same time, the Bank would point out that with large and to some extent varying budget revenues, the basis for determining central government expenditure and taxes from one year to the next may easily be impaired. If budget expenditure is allowed to fluctuate in step with oil prices, the result may be abrupt shifts and instability in the Norwegian economy. Changes in oil prices may then quickly influence wage and price expectations, the exchange rate and long-term rates. In that case it will be very demanding to achieve nominal stability. Short-term interest rates would have to be adjusted frequently and sharply and will generally reflect a high risk premium for the Norwegian krone. It is therefore important that the annual budgets are anchored in a long-term strategy that takes into account that oil revenues can fluctuate from one year to the next. In addition, it is advantageous if fiscal policy can be used to counter fluctuations in demand and production.
Norges Bank wishes to underscore the relationship between what may be achieved over time and the possible operational objective of fiscal policy, monetary policy and the social partners. The operational guidelines for monetary policy are laid down in the Exchange Rate Regulation of 6 May 1994. Section 2 of the Regulation states:
"The monetary policy to be conducted by Norges Bank shall be aimed at maintaining a stable krone exchange rate against European currencies, based on the range of the exchange rate maintained since the krone was floated on 10 December 1992. In the event of significant changes in the exchange rate, policy instruments will be oriented with a view to returning the exchange rate over time to its initial range. No fluctuation margins are established, nor is there an appurtenant obligation on Norges Bank to intervene in the foreign exchange market."
The Exchange Rate Regulation provides Norges Bank with scope for exercising discretion. In exercising this discretion, Norges Bank focuses on the fundamental preconditions for exchange rate stability. In order to achieve exchange rate stability against the euro, monetary policy instruments must be oriented in such a way that price and cost inflation is brought down towards the level aimed at by the European Central Bank (ECB). At the same time, monetary policy must not in itself contribute to deflationary recessions, as this could undermine confidence in the krone.
Norges Bank does not have instruments for fine-tuning the exchange rate. The krone exchange rate must therefore be expected to fluctuate in the short term. Attempts to fine-tune the exchange rate may undermine the credibility of monetary policy, and hence exchange rate stability, over time. If the exchange rate changes, it is necessary to evaluate the interest rate in the light of exchange rate movements over a longer period so that the fundamental preconditions for exchange rate stability are fulfilled. In general, the background for exchange rate developments must be assessed carefully before Norges Bank adopts monetary policy measures.
Hence, Norges Bank cannot with open eyes orient policy instruments in such a way that they fuel inflation or lead to a deflationary recession. If a situation arises where Norges Bank is not able to return the krone to its initial range without such consequences, the Bank will inform the government authorities that measures other than those available to the Bank are required. This may involve recommendations concerning fiscal measures that make it possible to return the krone exchange rate to its initial range and to stabilise it. In the event of pronounced and prolonged shifts in the economy, fiscal policy and wage determination must contribute to restoring balance in the economy. However, if fundamental and permanent changes have taken place in the framework conditions for the Norwegian economy, it may also be appropriate to consider a revision of the guidelines for monetary policy.
Given its mandate and responsibilities, the best way for Norges Bank to contribute to an appropriate policy mix is probably to be transparent, both with regard to its economic analyses and its pattern of reactions.