Thursday, June 20, 2013

Norway holds rate steady but gets ready to trim rate

    Norway's central bank left its policy rate steady at 1.5 percent but signaled that it is likely to cut rates slightly in the coming year as inflation will take longer to rise and economic activity is lower than expected.
    Norges Bank (NB), which last cut its rate in March 2012, said it was concerned that inflation expectations could become entrenched at too low a level and if the economy develops as expected, "the key policy rate should be kept lower than projected earlier," Governor Oeystein Olsen said.
    "There are prospects that they key policy rate will remain at the current level, or somewhat lower, in the year ahead," he added.
    At its last meeting in March, the Norwegian central bank had said it expected to keep its rate at 1.5 percent until the spring of 2014 and then start increasing the rate.
    However, the central bank has now completely dropped its tightening bias and omitted any mention of raising interest rates.
    "At the meeting, the Executive Board decided that the key policy rate should be in the interval 1%-2% in the period to the publication of the next Report on September 19, unless the Norwegian economy is exposed to new major shocks," the NB said.

     Dropping its upward rate bias completes a gradual shift in the central bank's policy stance in the last nine months. Norges Bank first started easing its upward rate bias in October 2012 when it delayed a planned rate rise by the end of 2012 to sometime in 2013. In January the bank maintained this stance but in March it pushed a planned rate rise to the spring of 2014.   
    Norway's inflation rate rose to 2.0 percent in May from 1.9 percent but the central bank said it now expects it will take longer than expected for inflation to rise.
    The NB forecast that underlying inflation of between 1.25 and 1.75 percent, below the central bank's target of 2.5 percent.
    Norway's economy is slowing down and growth prospects for both Norway and the global economy have weakened slightly, the bank said. Wage growth is slowing, unemployment is slightly higher than expected, capacity utilization is now close to a normal level and the krone currency has depreciated.
    "Growth among trading partners is somewhat lower than expected. In Europe, the downturn is likely to persist longer than previously projected," the bank said.
    "An extensive restructuring must be carried out in the euro area countries in order to boost their long-term growth potential. It will most likely take several years for production to return to levels prevailing to the financial crises," it added.

    Norway's Gross Domestic Product contracted by 0.2 percent in the first quarter from the fourth for an annual decline of 2.7 percent, a sharp fall from the fourth quarter's 1.9 percent expansion.
    But despite the slowing economy, the central bank said household debt in Norway was still rising faster than income and a "pronounced decrease" in the policy rate could lead to a further acceleration in house prices and debt, heightening the risk that financial imbalances could trigger of amplify an economic downturn.
    After years of rising home prices and household debt,  the central bank is worried that households may have trouble servicing that debt in the event of higher interest rates or a loss of income, triggering losses at banks and threatening a fresh financial crises.
    In March the central bank's board decided to impose an extra cushion of capital - known as a countercyclical capital buffer - that banks should build up during good economic times so they can draw on that reserve if the event of losses during an economic downturn.
    Norway's finance ministry is currently drawing up regulation for the countercyclical buffer, which will also help curb credit growth, and by September the central bank expects to issue concrete advice of the level of the buffer and when it will be introduced.
    "In the view of the Executive Board, banks in Norway are now well positioned to increase their capital ratios," the bank said.
     From the summer of 2014, all Norwegian banks will be subject to a minimum capital adequacy requirement of 13.5 percent, with at least 10 percentage points comprising Tier 1 capital. An extra requirement of up to 1 percent in 2015 and up to 2 percent in 2016 will be imposed on banks that are considering systemically important. The countercyclical buffer will come on top of that.


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