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The following OECD assessment and recommendations summarise chapter 1 of the Economic Survey of Norway published on 8 March 2010.
The Norwegian economy is emerging early from a mild recession
The global financial crisis hit Norway less severely than many other OECD countries. The recession was shallower than elsewhere and consumer demand picked up relatively early. This relatively early and strong recovery can be ascribed to a number of factors. The dynamism of household demand and the direct effect of public expenditure growth were major factors in sustaining demand, while the bounce back in oil prices also supported investment in the petroleum sector. By Norwegian standards, there has been a significant rise in the unemployment rate, though it is not expected to exceed 4% and it will fall back as the recovery gathers strength. Good growth is expected for the mainland economy this year, strengthening somewhat in 2011. Amid global uncertainty, some downside risks remain, however, both for the world economy and within Norway.
Policy measures to deal with the crisis were substantial
The economy’s resilience can be partly ascribed to the strong policy response. Norway went into the global financial crisis with an expansionary fiscal stance. Augmented by exceptional measures taken early in the year, 2009 saw a massive fiscal stimulus, followed by another expansionary budget for 2010. In addition, the central bank reduced interest rates by 450 basis points between October 2008 and June 2009 and it increased the supply of liquidity. The authorities’ response also included a number of unconventional measures: a scheme was set up by which banks could temporarily swap covered bonds against treasury bills, which improved the banks’ access to longer term funding. Furthermore, the Government established a Finance Fund to supply core capital to banks to strengthen their lending capacity, and a Government Bond Fund to boost the supply of credit in the bond market.
Interbank market liquidity seems to have recovered
The interbank market in Norway seized up as in other countries when the financial markets storm hit. Norwegian banks are heavily reliant on foreign funding and even interbank borrowing is largely dependent on foreign interbank markets, completed by swaps between US dollars or Euros and Norwegian krone (NOK), making the NOK-denominated interbank market very small. In addition to the measures taken in Norway itself, the supply of dollar liquidity from foreign central banks thus directly helped to restore the functioning of the Norwegian interbank market, and it has subsequently benefited from the better situation of global financial markets.
Extraordinary liquidity measures are being wound down and policy interest rates have begun to rise
As the financial market situation improved, the central bank began to phase out many of the exceptional liquidity measures in summer 2009. Credit conditions have eased, first for households, then for the corporate sector, with less uncertainty in the markets and perceptions of an improved economic outlook. The rebound in the housing market since the drastic cuts in interest rates in late 2008 has been remarkable. High incomes and employment explain some of the strength of house prices, but some indicators such as price to rent ratios suggest that prices are above long-term average values. It is thus unclear if a bubble is developing. Even if it were possible to identify such an asset price bubble, there is much uncertainty and discussion internationally about the appropriate response and it is not clear in any case whether monetary policy alone could easily head it off. While the target for monetary policy should remain price stability, it is advisable to ensure that asset prices – notably house prices and the exchange rate – are sufficiently taken into account in the monetary policy reaction function, in the light of their implications for the real economy and thus for inflation. In fact, partly in response to rising house prices, the central bank was one of the first among OECD countries to begin reversing monetary easing, increasing the policy rate by 25 basis points in October 2009, a further 25 basis points in December, and pointing to a rise of another 100 basis points over the next year. This appropriate tightening will, if the recovery proceeds as currently foreseen, need to continue firmly, but progressively so as to reduce the risk of excessively sharp exchange-rate appreciation.
A timely exit strategy calls for prompt fiscal tightening
With a recovery apparently underway, the large fiscal stimulus needs to be withdrawn to avoid overheating in 2011-12. Such fiscal consolidation would reduce the need for a tighter monetary stance, which would push up the exchange rate and might induce destabilising capital inflows. A better policy mix would be to begin to reduce fiscal deficits, allowing a more gradual withdrawal of monetary stimulus. In this light, the further expansion embodied in the 2010 budget of about 0.6% of GDP, while useful as insurance at the time the budget was formulated, now appears excessive in retrospect. If the recovery evolves as expected, deficit reductions need to start in earnest soon, aiming at a return to the 4% path – that is, the structural non-oil central government deficit should be 4% of the Government Pension Fund Global (GPFG) – by 2013, or even earlier. A fiscal consolidation package should include a reversal of the remaining anti-crisis measures; many have been terminated already but some have been converted into new spending. In addition, generous transfer schemes such as sick leave and disability should be reformed and spending cuts may be envisaged in those areas of public spending where there is evidence that resources are used inefficiently, as discussed below.
A large deviation¹ from the 4% path in 2009 and 2010
Source: Ministry of Finance.
Pro-cyclical deviations from the 4% path should be avoided and its implementation integrated with multiannual budgeting
The purpose of the GPFG is to support long-term management of petroleum revenues. Proceeds from the fund are used to finance the non-oil budget deficit. Since 2001 this framework has been supplemented by the fiscal guideline stating that only the expected long run real returns can be channelled into the budget; the long run real rate of return is estimated to be 4%, and over time the non-oil structural deficit should correspond to this. Taken together, the GPFG and the 4% guideline have had a major, highly favourable impact on both the economy and public finances. It is important to maintain this framework.
In practice, the structural non-oil central government deficit has averaged only slightly more than 4% of the GPFG since its inception in 2001. However, in 2009 it overshot by a very wide margin in response to the recession. Returning quickly to the 4% path, as suggested above, will be key to maintaining its credibility as a guide to fiscal policy. Moreover, it will help to preserve the GPFG for future generations, as intended, helping to finance the expected substantial increase in ageing costs. Indeed, the authorities should seize the opportunity of periods of above-trend growth after 2013 to undershoot the 4% path. This would reinforce the credibility of the framework by confirming that it is operated symmetrically. Credibility of the 4% guideline would also be strengthened by developing a multi-year approach to budgetary planning, which would specify the fiscal measures envisaged by the government in the coming years; this would prove especially useful in the context of the need for a period of fiscal consolidation. Norway could also follow the example of some OECD countries and create a fiscal council, which would periodically evaluate budgetary developments, including the implementation of the fiscal guidelines, thus providing further transparency and enhanced credibility.
Banks, and the supervisory system, performed well in the crisis
In the last two years, banks’ losses have increased, though less than in other OECD countries. The strong earnings that Norwegian banks had accumulated over the previous upturn had given them some buffer to face the crisis. Relatively risk-averse behaviour in the financial sector was partly due to sound financial regulation for all types of financial institutions, including uniform capital requirements, with conservative treatment of subsidiaries, off balance sheet assets and securitisation. The existing deposit guarantee scheme helped to avoid runs on banks, and it was not necessary to increase the coverage level or provide a government guarantee for banks. Eksportfinans, the public export credit agency, made substantial losses on the securities market and was supported by the government; one other Norwegian-based institution, a subsidiary of an Icelandic bank, also got into trouble. The macro-prudential framework appears to have performed well, with the three responsible institutions – the Ministry of Finance, Norges Bank and the Financial Supervisory Authority (FSA) – maintaining close contact and cooperation. It will be critical to maintain such relationships in the future, and for all three institutions to maintain heightened awareness of systemic risks posed by excessive credit growth, asset price increases or indebtedness.
In the aftermath of the crisis it would be useful to strengthen further the macro-prudential framework in line with the decisions adopted at the European and worldwide levels. Norway’s participation in the new EU supervisory framework seems assured. It should in addition examine areas where it would be feasible to adopt its own reforms, if doing so would address possible areas of weakness. For example, risks linked to high household indebtedness could be reduced by introducing a limit on loan-to-value ratios, which would also give mortgage borrowers additional protection against overly-aggressive lending practices. The supervisors should continue to encourage banks to build additional capital cushions against future risks, such as potentially bad loans for commercial property and shipping, and in the Baltic States. For DnB NOR, the dominant institution in the market of banking insurance and fund management, raising private equity could give the opportunity to significantly reduce government ownership, helping to reduce perceptions of an uneven playing field. However, the authorities are concerned that this would risk DnB NOR being no longer subject to Norwegian prudential regulation and supervision if it were acquired by a foreign bank and operated as a branch. Also, to reduce the incentives to risk-taking, fees paid to the Bank Guarantee Fund could vary more as a function of the risk characteristics of banks’ portfolios than they do now. The ceiling on the size of the Fund should also be removed, and fees could vary inversely with the cycle.
How to obtain this publication
The Policy Brief (pdf format) can be downloaded in English. It contains the OECD assessment and recommendations. The complete edition of the Economic Survey of Norway is available from:
For further information please contact the Norway Desk at the OECD Economics Department at firstname.lastname@example.org.
The OECD Secretariat's report was prepared by Paul O'Brien, Romina Boarini and Robert Price under the supervision of Patrick Lenain. Research assistance was provided by Steinar Juel, Annette Panzera, Valery Dugain and Liliana Suchodolska.