The analyses in the March Inflation Report implied an interest rate increase in May or June and further increases thereafter. The interest rate was raised in May.

The slow rise in consumer prices for domestically produced goods and services in recent months may be an indication of solid productivity growth in the economy and intensified competition. On the other hand, growth is strong in the Norwegian economy and the projections for capacity utilisation have been revised upwards. There are prospects that inflation will pick up, but this may take time. Economic policy must increasingly reflect capacity constraints in the domestic economy.

The assessment in the June Inflation Report implies that the interest rate may gradually - in small, not too frequent steps - be brought back towards a more normal level. According to the monetary policy strategy in the Report, the sight deposit rate should be in the interval 2¾ - 3¾ per cent in the period to the publication of the next Inflation Report on 1 November, conditional on economic developments that are broadly in line with projections.

Outlook and risk factors

In the first six months of 2006, the key rate has been increased in two increments of 0.25 percentage point. There are prospects that the interest rate will rise further at about the same pace. Economic growth is also solid in other countries. Norges Bank has assumed that money market rates among our trading partners will rise gradually in the years ahead.

Low underlying inflation so far this year has contributed to a downward revision of the projection for inflation measured by the CPI-ATE in relation to the March Inflation Report. The stronger krone exchange rate will curb inflation this year and next, but this effect will subsequently unwind. With higher capacity utilisation, however, inflation will gradually pick up broadly in line with previous projections. There are prospects that inflation will be close to the target of 2.5 per cent three years ahead. A gradual increase in the interest rate will curb growth in demand for goods and services and the rise in credit and house prices.

The Executive Board highlights the following risk factors:

• There may be stronger shifts in the import pattern than assumed in our projections. It may then take longer for the rise in prices for imported goods to pick up. Strong competition and high domestic productivity growth may dampen the rise in prices for domestically produced goods and services. The strong krone exchange rate may also contribute to low inflation. Lower inflation will, in isolation, imply an interest rate that is lower than the forecast in the Inflation Report. However, the risk that a period of low inflation will be followed by deflation seems to have diminished.
• Real interest rates have been very low for a period. Experience has shown that wage growth may rise sharply when output and employment growth pick up. This could lead to a subsequent decline in output and employment. High oil prices may have a stronger impact on consumer prices than seen so far. Stronger price impulses from our trading partners may result in higher-than-expected imported price inflation. If growth in the economy is stronger than assumed and inflation rises faster than expected, these developments will imply a more rapid interest rate increase.

Economic developments

The Executive Board has placed emphasis on the following new information that has emerged since the previous monetary policy meeting on 31 May:

• In the US, strong economic growth may have moderated somewhat in the past few months. In the euro area, the UK, Sweden and Japan growth remains solid. In China, the high rate of growth seems to be accelerating. The fall in equity prices in the US, Europe and Japan may indicate that equity market participants have become somewhat more uncertain about developments ahead.
• The year-on-year rise in consumer prices picked up in a number of countries in May as a result of higher energy prices. There are also signs of an accelerating rise in producer prices other than energy prices. Core inflation is still moderate, but has reached 2.4 per cent in the US.
• Since the previous monetary policy meeting, the key rate has been raised by 0.25 percentage point in the euro area, Denmark, Sweden and Switzerland. Interest rate expectations 12 months ahead have increased in the euro area, the UK, the US and Sweden. A rise in key rates is expected in the coming year in the US, Canada, the euro area, the UK, Sweden, Switzerland, Japan and Australia. Long-term international interest rates have risen.
• The price of Brent Blend has risen to about USD 72 per barrel. Futures prices indicate that oil prices will be above USD 70 per barrel in the coming year. Other commodity prices are markedly lower than at the end of May, although still higher than at the beginning of the year.
• The import-weighted exchange rate (I-44) is around 1¼ per cent weaker than at the time of the previous monetary policy meeting.
• Different measures of underlying inflation have been in the range 1-1½ per cent since last summer. The year-on-year rise in the CPI-ATE adjusted for the interest rate's direct effect on house rents and the impact of lower maximum day-care rates can be estimated at 1.0 per cent in May. The total consumer price index rose by 2.3 per cent in the twelve months to May this year. TNS Gallup's second-quarter consumer confidence survey indicates that expectations concerning the general price level are stable among economists in the financial industry and academia. Among employer and employee organisations, expectations have edged up.
• Preliminary national accounts figures from Statistics Norway indicate that mainland GDP adjusted for seasonal variations rose by 0.6 per cent from the fourth quarter of 2005 to the first quarter of 2006. In the same period, the number of employed rose by 0.9 per cent, while the number of person-hours worked rose by 0.6 per cent.
• According to Statistics Norway's Labour Force Survey (LFS), employment increased further in March and April. The decline in LFS unemployment since summer 2005 continued in April. Registered unemployment also fell in June. Sickness absence continued to increase in the first quarter. The centralised pay increases in this year's wage settlement imply that annual wage growth will as expected be somewhat higher in 2006 than in 2005.
• Statistics Norway's investment intentions surveys for the second quarter of 2006 point to solid investment growth in manufacturing and the power sector this year and next. Strong growth in planned investment in oil and gas extraction in 2006 has again been revised upwards somewhat.
• Growth in total gross debt for mainland enterprises showed a further increase in March. The benchmark index on the Oslo Stock Exchange has declined by approximately 13 per cent since 11 May, but is still about 11 per cent higher than at the beginning of the year.
• Household seasonally adjusted goods consumption increased in May. Household debt growth remains at a high level. House prices picked up markedly in May, and the year-on-year rise was 14.5 per cent. Building starts are still on the increase.
• Reports from Norges Bank's regional network indicate continued solid growth in demand and production in all industries. Growth is expected to remain high over the next six months. The share of enterprises facing capacity problems has risen. Enterprises believe that the rise in employment will continue, but labour shortages are a growing constraint on production. In spring, the enterprises in our regional network expected that wage growth would be moderate, while a greater number now expect that wage drift through the year may result in higher-than-budgeted wage growth in 2006. Prices for Norwegian export goods and prices for business services have risen at a faster pace. In retail trade, the rise in prices is still expected to be moderate.
• Expectations concerning money market rates in Norway have been revised upwards since the publication of the previous Inflation Report and since the previous monetary policy meeting.

 Charts - monetary policy meeting (809 Kb)
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