The objectives of bringing inflation back to the target of 2.5 per cent and anchoring inflation expectations imply a continued low interest rate. The krone has appreciated since the previous monetary policy meeting.

On the other hand, there are expectations that high output growth will persist. The objective of stabilising developments in output may, in isolation, imply a higher interest rate. Inflation is gradually picking up. High capacity utilisation may generate a continued sharp rise in property prices and household borrowing. This could be a source of instability in demand and output in the somewhat longer run.

The Executive Board's assessment in the June 2005 Inflation Report was that the interest rate may gradually - in small, not too frequent steps - be brought up towards a more normal level if economic developments are approximately as projected in the Report. This was considered to provide a reasonable balance between the objective of stabilising inflation at target and the objective of stabilising growth in output and employment. It was the Executive Board's assessment that the sight deposit rate should lie in the interval 1¾ - 2¾ per cent in the period to the publication of the next Inflation Report on 2 November.

Developments in output, demand and underlying inflation have been consistent with the projections in the June Inflation Report. The Executive Board's monetary policy strategy and assessments indicate that the interest rate should be gradually increased ahead. One option was to increase the interest rate at this meeting, but we found it appropriate to leave the interest rate unchanged.

Outlook and risk factors

The analyses in the June 2005 Inflation Report showed that capacity utilisation in the Norwegian economy is expected to increase this year and next, and to exceed its normal level. There are prospects that inflation will gradually pick up and be close to 2½ per cent at the three-year horizon. Since the June Inflation Report, prices for domestically produced consumer goods have risen less sharply than expected. At the same time, oil prices have been somewhat higher than assumed. Energy prices are pushing up consumer price inflation. New information since the previous Inflation Report does not provide grounds for changing the assessment of developments in the real economy.

Growth among trading partners seems on the whole to be approximately as expected in the June Inflation Report. High oil prices may result in somewhat higher global inflation than previously projected.

The June Inflation Report pointed to the risk that a low interest rate over a long period may gradually result in stronger pressures in the economy than indicated in the baseline scenario. The Report also pointed to the possibility that the price-curbing effects of intensified competition and increased imports from low-cost countries in Asia and Central and Eastern Europe may continue to restrain inflation. High activity in these countries has pushed up demand for commodities. This has resulted in high energy prices. The year-on-year rise in consumer price inflation adjusted for tax changes and the direct effect of interest rates on house rents was 1.7 per cent in August. So far, imported price inflation has fluctuated somewhat, but neither these figures nor other information provide grounds for changing the assessment of the uncertain factors.

Economic developments

The Executive Board also places particular emphasis on the following new information that has emerged since the previous monetary policy meeting on 11 August:

• While current indicators for the US economy released in June-July mainly gave a positive impression, the picture has been more mixed recently. Retail sales have increased, but industrial output is showing sluggish developments. In isolation, the physical damage resulting from Hurricane Katrina will probably not have a long-term effect on the US economy. Some production capacity will be out of operation for a period, although reconstruction will boost demand fairly quickly. Industrial output has also shown weak developments in the euro area. In the UK, growth in GDP has slowed. In Japan, GDP figures for the second quarter reflected positive contributions from both private consumption and private investment. In Sweden, indicators for both the corporate and household sectors show more positive developments.
• The Federal Reserve raised its key rate by 0.25 percentage point on 20 September. Market participants expect a continued rise in interest rates in the US. In the UK, market participants consider it likely that the interest rate will be lowered at the beginning of 2006. The first increase in the interest rate in Sweden is expected in spring 2006. Interest rate expectations have fallen in the euro area, and the key rate is now expected to be left unchanged for a longer period.
• The price of oil has remained high and has at times exceeded USD 65 per barrel. Developments in oil and petrol prices have been affected by Hurricane Katrina and the risk of additional hurricanes.
• Consumer prices adjusted for tax changes and excluding energy products (CPI-ATE) fell by 0.1 per cent from July to August. The year-on-year rise was 1.3 per cent in August, up from 1.1 per cent in June and July. Adjusted for the interest rate's direct effect on house rents, the year-on-year rise in the CPI-ATE is estimated at 1.5 per cent in August. The CPI rose by 1.9 per cent in the same period, which was more than expected.
• Measured by the import-weighted krone exchange rate, the krone has appreciated somewhat since the previous monetary policy meeting. Financial market participants expect a gradual rise in Norges Bank's key rate ahead. Forward rates are virtually unchanged since the June Inflation Report.
• Directorate of Labour figures show that seasonally-adjusted unemployment stood at 3.4 per cent in August, down by 0.1 percentage point from the previous month. Developments in registered employment are in line with the projections in the June Inflation Report. Statistics Norway's Labour Force Survey (LFS) presents a somewhat weaker picture of unemployment. According to quarterly national accounts figures, employment rose by 0.5 per cent from the first half of last year to the same period this year. Measured by the LFS, employment increased markedly in June, with the number of employed persons rising by 12 000 compared with May. This is approximately in line with the projection in the June Inflation Report.
• Household goods consumption rose somewhat from June to July. National accounts figures for the second quarter showed a sharp increase in private consumption. TNS Gallup's consumer confidence indicator picked up from May to August. Households are optimistic about their own finances and the national economy, and expectations with regard to the economy next year have become more positive.
• Growth in household credit has picked up. The rise in house prices has slowed somewhat, but remains strong. Housing starts picked up in July.
• Preliminary national accounts figures showed that mainland GDP increased by 0.9 per cent from the first to the second quarter. Growth was primarily fuelled by the construction industry, financial services and retail trade. Developments were consistent with the projections in the June Inflation Report.
• Manufacturing output increased from May to July. Growth was high in all product groups. The investment intentions survey for oil and gas production shows that the estimates for 2006 have been adjusted upwards since the previous quarter, while the estimates for 2005 have been revised downwards. According to TNS Gallup's third quarter business sentiment survey, industrial leaders still consider profitability to be very good. The rate of growth in overall debt for mainland enterprises has picked up somewhat. The twelve-month rise in corporate liquidity in the form of bank deposits moved up in July.

Charts - monetary policy meeting  (PPT, 1561 kB)
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