Since summer, monetary policy has been oriented towards a gradual increase in the interest rate - in small, not too frequent steps - towards a more normal level. Growth in demand and output is still high and may in isolation suggest a more rapid increase in the interest rate. This would reduce the risk of bottlenecks in the economy, with rising cost inflation and continued debt build-up. On the other hand, raising the interest rate more rapidly would increase the risk of a renewed appreciation of the krone. This could counter an increase in inflation towards the target of 2.5 per cent.

Developments in output, demand and inflation do not differ substantially from the projections in Inflation Report 3/05. In the Inflation Report, the Executive Board's assessment was that the sight deposit rate should lie in the interval 2-3 per cent in the period to the publication of the next Inflation Report on 16 March 2006, conditional on economic developments that are broadly in line with the projections. There are prospects that the interest rate will increase further, in small, not too frequent steps.

Outlook and risk factors

The projections in Inflation Report 3/05 were based on a gradual increase in the interest rate towards a more normal level. Inflation as measured by the CPI-ATE was projected to rise gradually and reach the target of 2.5 per cent in 2008. Mainland output is now above its normal level. The output gap, which is a measure of capacity utilisation in the economy, was projected to increase further in 2006. A monetary policy stance that gradually becomes less expansionary will stabilise the economy over time, thereby curbing the rise in inflation and preventing it from overshooting the target.

The Inflation Report pointed to the risk that a low interest rate over a long period may result in strong pressures in the economy. It also referred to the possibility that continued trade shifts and increased labour market competition might result in lower price and wage inflation and weaker pressures in the economy. The Report stressed global economic uncertainty, and stated that different developments in global growth and in oil prices might result in a different path for the Norwegian economy than projected. Imported price inflation has been slightly lower than expected, and oil prices have fluctuated since the Report was published. At the same time, the krone is somewhat weaker than assumed, and there are prospects that the interest rate level will rise among a number of our trading partners. Neither these factors nor other information provide grounds for changing the assessment of the outlook or risk factors.

Economic developments

The Executive Board has placed emphasis on the following new information that has emerged since the previous monetary policy meeting on 2 November:

• GDP figures for the third quarter confirm that the global economy is continuing to expand. GDP growth in the US picked up in the third quarter, largely due to private consumption, although investment growth is also high. Economic growth appears to remain buoyant in the fourth quarter. In the euro area, growth has picked up somewhat. Both exports and investment have shown an increase. Activity in Sweden has also picked up after a slight drop at the beginning of the year. In Japan, the recovery seems to have taken hold. In the UK, economic growth is still moderate.
• The year-on-year rise in consumer prices has declined somewhat in the US, the euro area, the UK and Japan. Consumer price inflation is nevertheless still high in the US and slightly above target in the euro area and the UK.
• The European Central Bank (ECB) raised its key rate by 0.25 percentage point to 2.25 per cent with effect from 6 December. The ECB gave weight to rising inflation and the risk of high inflation expectations. The Federal Reserve raised its key rate by 0.25 percentage point on 13 December. Market participants are expecting interest rate increases in the course of the next three months in the US, the euro area, Denmark, Sweden, Canada, New Zealand and Switzerland. In the UK, the key rate is expected to remain unchanged in the year ahead.
• Oil prices have fluctuated somewhat but have now reverted to about the same level as at the time of the previous monetary policy meeting, around USD 59 per barrel. Long-term oil futures have risen slightly.
• Equity markets in for example the US, Japan, the euro area, the UK and Sweden have risen. The benchmark index on the Oslo Stock Exchange has risen by 11 per cent since the beginning of November.
• The year-on-year rise in consumer prices adjusted for tax changes and excluding energy products (CPI-ATE) was 1.1 per cent in November, down from 1.2 per cent in October. Adjusted for the interest rate's direct effect on house rents, the year-on-year rise in the CPI-ATE is estimated at 1.2 per cent in November. The rise in the overall consumer price index (CPI) was 1.8 per cent in November. The rise in prices in October and November was approximately as expected.
• According to a survey conducted by TNS Gallup, inflation expectations have increased somewhat since September. Inflation expectations have increased slightly for all groups in the survey, both with regard to the coming year and further ahead.
• Following a gradual appreciation through most of the year, the import-weighted krone exchange rate (I-44) has depreciated since the previous monetary policy meeting.
• Financial market participants expect a gradual rise in Norges Bank's key rate ahead. There has been little change in interest rate expectations since the last monetary policy meeting.
• National accounts figures for the third quarter show moderate employment growth. Reports from Norges Bank's regional network in October/November present a somewhat stronger picture of the labour market and suggest continued employment growth in most industries. The impression of a tighter labour market is confirmed by Labour Directorate figures, which show that unemployment has fallen further. The number of registered vacancies has increased.
• Consumer spending on goods has been more subdued than expected. National accounts figures showed nevertheless that growth in total private consumption was solid in the third quarter. TNS Gallup's consumer confidence indicator declined somewhat from August to November, but is still high. The decline is due to lower expectations with regard to domestic economic developments. Households are still highly optimistic with regard to their personal finances.
• Twelve-month growth in credit to households from domestic sources (C2) rose to 13.0 per cent in October. The rise in house prices is still high. Housing investment and housing starts have been more subdued in the past few months.
• Preliminary national accounts figures showed that mainland GDP increased by 0.8 per cent from the second to the third quarter, approximately as expected. Growth was primarily driven by commercial services, retail trade and financial services.
• In TNS Gallup's fourth quarter business sentiment survey, business leaders continue to report improved profitability. After rising for several quarters, manufacturing output declined somewhat in the period August to October, although order backlogs are still increasing. New orders in the construction industry are also showing solid growth. Debt accumulation in the enterprise sector rose in October. Estimates for investment in oil and gas recovery in 2006 were adjusted upwards in the latest survey.
• Information from Norges Bank's regional network indicates solid growth in all industries. Compared with August/September, growth was reported to be stronger in the export industry and corporate services, but somewhat weaker in retail trade and the household service sector. Labour shortages have been reported in the construction industry, oil-related industries and in a number of service industries. Information from the regional network indicates that capacity utilisation in the economy is now higher than in the first half of 2005.
• Nominal growth in central government spending is estimated at 4¾ per cent in 2005 after extra allocations in the final central government budget bill. The approved central government budget for 2006 entails a balanced amendment to the budget in relation to the budget proposed by the previous government. Nominal underlying spending growth is estimated at 4½ per cent. No substantial amounts have been set aside to meet unforeseen expenditure besides wage settlement provisions.

 Charts - monetary policy meeting (648 Kb)
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 Charts - monetary policy meeting (125 Kb)