Monetary policy assessment

Consumer prices have risen rapidly, and inflation is markedly above target. Activity in the Norwegian economy is still high, and unemployment has remained very low. At the same time, the Norwegian economy is slowing down.

Since the September 2022 Monetary Policy Report, inflation has been higher than projected and is expected to remain high for longer than previously projected. At the same time, the labour market appears to be a little tighter than anticipated. On the other hand, the policy rate has been raised considerably over a short period of time, and monetary policy has started to have a tightening effect on the economy. There are signs that the slowdown may prove somewhat more pronounced than envisaged in September.

Norges Bank’s Monetary Policy and Financial Stability Committee decided to raise the policy rate from 2.5% to 2.75% at its meeting on 14 December. Based on the Committee’s current assessment of the outlook and balance of risks, the policy rate will most likely be raised further in 2023 Q1.

High inflation and weaker global growth outlook

Elevated energy prices, strong demand and supply side constraints have led to high global inflation over the past year, but consumer price inflation may now have passed the peak in some countries, such as the US. Futures prices indicate that both gas and electricity prices will remain high over the coming year but will fall thereafter. Other commodity prices have edged down over the past six months, and global supply chain disruptions appear to have eased. Global freight rates have shown a marked decline.

Chart A Lower gas and electricity prices1

Øre/kWh

Central banks in many trading partner countries have responded to the surge in inflation by raising policy rates to the highest levels seen in more than a decade. Labour markets are tight, but the fall in unemployment appears to have come to a halt in some countries. Wage growth has accelerated and is expected to remain high next year. Economic activity among our trading partners has been slightly higher than projected in the September Report, but forward-looking indicators point to weaker growth ahead. High inflation and higher interest rates are expected to curb consumption growth. At the same time, high energy prices have prompted some European companies to scale back production. GDP growth among our trading partners is expected to be low next year.

Chart B Sharp tightening of monetary policy in many countries2

Policy rates and estimated forward rates in selected countries. Percent

Volatile financial markets

Financial markets have been highly volatile since the September Report. Market-based expectations of global policy rates are a little higher in the near term but indicate expectations of a gradual moderation in the pace of policy rate hikes over the next year.

The krone exchange rate has fluctuated considerably in recent months but is now broadly in line with the projections in the September Report. The volatility in financial markets is adding to the uncertainty about movements in the krone exchange rate ahead. The expected path of Norway’s policy rate has fallen since September. Higher money market premiums have pushed up corporate borrowing costs. The rise in mortgage lending rates has been broadly as expected.

High activity in the Norwegian economy, but prospects for weaker growth ahead

Activity in the Norwegian economy has been higher through 2022 than previously assumed, and mainland GDP has increased faster in recent months than expected. High inflation and higher interest rates have reduced household purchasing power, but consumption has so far remained higher than projected in the September Report.

Chart C Higher-than-projected economic activity3

GDP for mainland Norway. Seasonally adjusted. Index. February 2020 = 100

The labour market is tight. Employment has continued to rise, and unemployment has remained very low. Seasonally adjusted registered unemployment was 1.6% in November, which was slightly lower than projected in the September Report. There are still considerable labour shortages, but shortages are easing. The share of enterprises in Norges Bank’s Regional Network reporting that labour shortages are limiting output fell further in November. The number of job vacancies has also decreased.

Chart D Labour shortages have eased4

Capacity utilisation and labour shortages according to the Regional Network. Percentage shares

Regional Network enterprises on the whole expect a marked decline in output over the next half year. Enterprises expect lower demand ahead, on the back of high price and cost inflation, higher interest rates and a decline in public sector projects.

The housing market has turned. House prices have fallen faster than projected, and the number of unsold homes has increased markedly. House prices are expected to fall further in the period to autumn 2023. A reduction in household wealth due to a fall in house prices, combined with the prospect of a notable decline in household real disposable income in 2023, pushes down consumption between 2022 and 2023. The household saving ratio is declining, and saving is expected to remain low ahead.

Activity in the Norwegian economy is projected to fall in the near term. Higher inflation and a weaker housing market are expected to contribute to a more rapid cooling of the Norwegian economy than envisaged in September. Substantial investments in the petroleum industry and activities related to climate transition are expected to lift activity somewhat further ahead.

Prospects of high inflation for a longer period

Inflation in Norway is high and appreciably higher than projected in the September Report. In November, the 12-month rise in the consumer price index (CPI) was 6.5%. Energy and food prices in particular have risen sharply over the past year, but prices across a range of other goods and services have also risen more than normal. The 12-month rise in the consumer price index adjusted for tax changes and excluding energy products (CPI-ATE) has moved up and stood at 5.7% in November. Prices for both imported goods and domestically produced goods and services are rising at a fast pace. Other indicators of underlying inflation have also edged higher. Inflation is expected to remain higher in the period ahead than previously projected.

According to Norges Bank’s Expectations Survey, inflation expectations for the coming years have increased recently. Long-term inflation expectations increased further in 2022 Q4 and are above the 2% target.

Wage growth is set to be higher in 2022 than in 2021, partly reflecting labour market tightness. Register-based wage statistics indicate that wage growth in the first three quarters of 2022 may have been slightly lower than projected. The projection for wage growth in 2022 has been revised down to 3.9%, implying a sharp decline in real wages. Norges Bank’s Expectations Survey indicates that wage growth expectations for 2023 have increased since September and nominal wage growth is expected to show a marked increase in 2023.

Chart E Inflation markedly above the 2% target5

CPI and CPI-ATE. Twelve-month change. Percent

Need for higher interest rates in the Norwegian economy

The operational target of monetary policy is annual consumer price inflation of close to 2% over time. Inflation targeting shall be forward-looking and flexible so that it can contribute to high and stable output and employment and to countering the build-up of financial imbalances.

The Committee assesses that a higher policy rate is still needed to dampen inflation. Consumer prices have risen rapidly, and inflation is markedly above target. Activity in the Norwegian economy is still high, and unemployment has remained very low. At the same time, the economy is slowing down, and higher inflation is reducing household purchasing power. An easing of economic pressures will help curb inflation further out.

Since the September Report, inflation has been higher than projected and is expected to remain high for longer than previously projected. At the same time, the labour market appears to be a little tighter than anticipated. On the other hand, the policy rate has been raised considerably over a short period of time, and monetary policy has started to have a tightening effect on the economy. There are signs that the slowdown may prove somewhat more pronounced than envisaged in September.

Chart F Higher policy rate curbs inflation6

The policy rate forecast indicates a policy rate of around 3% in 2023, slightly higher than in the previous Report. In the projections, inflation falls and approaches the inflation target further out. The output gap falls, and output stays somewhat below potential in the coming years. Unemployment then increases somewhat, albeit from a low level.

In its discussion, the Committee was concerned with higher-than-normal uncertainty surrounding the forecasts for the Norwegian economy. There is uncertainty associated with households’ response to higher inflation and increased interest rates, and the potential effects of high inflation on wage and price formation. The future path of the policy rate will depend on economic developments. If the pressures in the economy persist, and signs emerge that inflation will remain high for longer than currently projected, a higher policy rate may be needed than currently envisaged. If inflation falls faster or unemployment rises more than projected, the policy rate may be lower than projected.

The Committee decided unanimously to raise the policy rate by 0.25 percentage point to 2.75%. Based on the Committee’s current assessment of the outlook and balance of risks, the policy rate will most likely be raised further in 2023 Q1.

Ida Wolden Bache
Pål Longva
Øystein Børsum
Ingvild Almås
Jeanette Fjære-Lindkjenn

14 December 2022

Assessment of the countercyclical capital buffer requirement

In March, the decision was made to raise the countercyclical capital buffer rate to 2.5%, effective from 31 March 2023. At its meeting on 14 December, Norges Bank’s Monetary Policy and Financial Stability Committee decided to maintain this requirement.

The countercyclical capital buffer is intended to strengthen banks’ solvency and mitigate the risk that banks amplify an economic downturn. If a downturn will or could cause a marked reduction in credit supply, the countercyclical capital buffer rate should be lowered.

Activity in the Norwegian economy is still high, and unemployment has remained very low. At the same time, the Norwegian economy is slowing down. The uncertainty surrounding the forecasts for the Norwegian economy is higher than normal.

Property prices have risen substantially in recent years, and many households are highly indebted. Such vulnerabilities may amplify a downturn. Household credit growth has slowed in autumn, while corporate credit growth has remained elevated. At the same time, residential and commercial property prices have fallen, and they are expected to fall further. Persistently low yields increase the risk of a sharp fall in commercial property prices.

Creditworthy firms and households appear to have ample access to credit, even if there are some signs of a tightening of banks’ credit standards. Bond risk premiums have risen markedly in 2022, particularly for commercial real estate firms.

Norwegian banks satisfy the capital requirements and are highly profitable. Bank losses are expected to be low ahead. Analyses in Financial Stability Report 2022 show that banks are resilient and able to absorb losses and maintain lending in a severe economic downturn. The countercyclical capital buffer rate of 2.5% helps banks to remain resilient so that they can perform their tasks also in the event of economic downturns.

The Committee unanimously decided to keep the countercyclical capital buffer rate at 2.5%.

Ida Wolden Bache
Pål Longva
Øystein Børsum
Ingvild Almås
Jeanette Fjære-Lindkjenn

14 December 2022

1 The global economy

Consumer price inflation is very high in many countries. European gas and electricity prices remain at high levels, but futures prices for the coming year are lower than in September. The high level of inflation is reducing household purchasing power. Trading partner GDP growth is expected to be low in 2023. The projection has been revised down since the September 2022 Monetary Policy Report. The high degree of financial market volatility has persisted since September. Market forward rates indicate that policy rate expectations for the period ahead are slightly higher than in September and that central banks will gradually slow the pace of monetary policy tightening.

High gas and electricity prices dampen activity ahead

Among most of Norway’s trading partners, labour markets are tight, and GDP rose more than expected between 2022 Q2 and Q3. Growth picked up in the US and China, while activity levels in the euro area and the UK were little changed.

Growth prospects for the coming quarters are weak. European gas and electricity prices remain at historically high levels. Futures prices indicate that gas and electricity prices will remain elevated but in the coming year, be lower than assumed in the September Report (see "Futures prices for energy and other commodities remain high"). In autumn, many European firms scaled back production due to high energy costs (Chart 1.1). Households in many countries are receiving fiscal support, but energy costs will still be high in the coming quarters. It is difficult to project the economic impact of gas and electricity market developments. High gas and electricity prices are now expected to dampen activity in Europe more than assumed in the September Report.

Chart 1.1 Energy-intensive industrial production in the euro area has fallen1

Industrial production. Index. 2019 = 100. Three-month moving average

Consumer price inflation is very high. In addition, many central banks have raised their policy rates substantially since spring, and market policy rate expectations indicate further rate hikes in the period to summer 2023 in both Europe and the US. Households are expected to reduce saving further, but consumption in Europe will likely decline in the coming quarters due to the high cost of living. Activity indicators for manufacturing and services are low (Chart 1.2), and investment is expected to decline ahead. These factors combined imply a likely decline in European economic activity through autumn and winter. In addition, lockdowns related to higher Covid infection rates will dampen growth in China.

Chart 1.2 Activity indicators point to lower growth in Europe2

PMI manufacturing (output) and services

Monetary policy is assumed to be tightened in line with market policy rate expectations and commodity prices to move in line with futures prices. In the UK, there are plans for considerable fiscal tightening, while higher defence and energy investment in Europe are likely to boost activity further out in the projection period. In China, growth is expected to be slower ahead than in the pre-pandemic years. This partly reflects measures to ensure more domestic consumption-driven growth and less dependence on foreign trade, as well as ongoing trade conflicts with other countries. Trading partner GDP growth is projected to slow from 3.4% in 2022 to 0.5% in 2023, before picking up again in 2024 (Annex Table 1). The projections for 2023 and 2024 have been revised down since the September Report (Chart 1.3). Import growth among trading partners is projected to fall from over 7% in 2022 to below zero in 2023.

Chart 1.3 Weaker growth outlook3

GDP for trading partners. Quarterly change. Seasonally adjusted. Percent

High consumer price inflation

Pandemic-related supply and demand conditions and the war in Ukraine have contributed to high inflation among Norway’s main trading partners since autumn 2021, but consumer price inflation may now have passed the peak in some countries, such as the US. In the US, 12-month CPI inflation fell somewhat in recent months, while core CPI inflation has run slightly above 6% (Chart 1.4). In the euro area, headline inflation slowed to 10% from October to November 2022. Both energy and food price inflation is high. Underlying consumer price inflation was 5% in November. In recent months, underlying inflation among trading partners has been higher than projected in the September Report, particularly in Europe.

Chart 1.4 Consumer price inflation remains high4

Consumer prices. Twelve-month change. Percent

Goods freight rates have fallen substantially over the past six months, with rates from Asia to the US down to pre-pandemic levels. At the same time, many commodity prices fell markedly over summer and autumn, which will eventually dampen consumer goods inflation. On the other hand, high energy prices have pushed up business costs, with some expected pass-through to prices for goods and services.

Labour markets are tight, but the fall in unemployment appears to have come to a halt in a number of countries and labour demand appears to be declining in both the US and Europe. Wage growth among Norway’s main trading partners is projected to be about 4.5% in both 2022 and 2023, slowing gradually thereafter. Long-term market-based inflation expectations are little changed since the September Report and are close to the inflation targets of both the US and the euro area. Underlying consumer price inflation for trading partners as a whole is projected to slow from 4.8% in 2022 to slightly above 4% in 2023, before gradually drifting down to around 2%. The projections have been revised up from the September Report.

Further policy rate rises abroad

Since the September Report, central banks abroad have continued to tighten monetary policy, primarily in response to high inflation. Central banks in the US, euro area, UK and Sweden have all raised their policy rates, which are now at their highest levels since the financial crisis. The market’s policy rate expectations for the coming period have risen slightly since the September Report. At the same time, forward rates indicate expectations of a slower pace of increase in policy rates in the coming year, which also reflects what most central banks have signalled.

The high degree of financial market volatility has persisted. Long-term global government bond yields rose in autumn but fell back in recent weeks to approximately the same level as in the September Report (Chart 1.5). Global equity indexes have advanced slightly since the September Report, while corporate bond risk premiums have declined.

Chart 1.5 Volatility in long-term interest rates5

Ten-year government bond yields for selected countries. Percent

Uncertainty surrounding the economic outlook

The ongoing war in Ukraine is adding to the uncertainty about developments ahead. The effects of the current broad and simultaneous monetary policy tightening are also uncertain. There is a risk that the higher cost of living for households and higher business costs will lead to lower consumption and investment among trading partners than currently envisaged. Consumer price inflation may then fall more rapidly. Energy supply constraints may also dampen activity more than anticipated. On the other hand, growth may prove to be stronger than expected if households spend more of their savings. The projections assume that wage earners will not be fully compensated for the high rate of inflation, but if that were to be the case, price and wage inflation could remain high for longer than currently expected. The pandemic is still adding to uncertainty. In China, the easing of pandemic-related restrictions may lift activity more than expected in the near term but could also lead to more lockdowns further ahead. There is also a risk of further decline in the Chinese housing market.

2 Financial conditions

Financial conditions in Norway are slightly tighter now than at the time of the September 2022 Monetary Policy Report. A higher policy rate has contributed to a further rise in interest rates on residential mortgage loans and corporate financing. Higher money market premiums have led to a further rise in corporate lending rates. The exchange rate has fluctuated considerably but is now close to the levels in September.

2.1 Monetary policy since September

At the monetary policy meeting on 21 September, the decision was made to raise the policy rate from 1.75% to 2.25%. The projections in the September Report were based on a rise in the policy rate to around 3% in the course of winter. At the monetary policy meeting on 2 November, the policy rate was raised further to 2.50%.

The market had priced in some probability of a larger rate hike in November. Market-based policy rate expectations have fallen since the publication of the September Report and are lower than the policy rate forecast in this Report.

Norges Bank has constructed a financial conditions index (FCI) that looks at financial conditions beyond the policy rate (see "A financial conditions index (FCI) for Norway"). The FCI shows that these financial conditions tightened through autumn but are now close to the levels prevailing in September.

2.2 Household and corporate lending rates

Higher residential mortgage rates ahead

Household interest payments have risen in pace with the rise in the policy rate. At the end of October, the average interest rate on outstanding mortgages was 3.3%, nearly 1 percentage point higher than at the beginning of July, broadly in line with that projected.

Around 85% of the policy rate increase since autumn 2021 has so far passed through to residential mortgage rates. The pass-through from the policy rate to deposit rates has been substantially lower than to lending rates but has recently risen a little. The average household deposit rate was 1.1% at the end of October. The lower pass-through to deposit rates has enabled banks to maintain underlying profitability without raising residential mortgage rates by as much as the policy rate.

In the projections, residential mortgage rates continue to increase in response to further increases in the policy rate, but still somewhat less than the rise in the policy rate. The forecast implies a rise in the average residential mortgage rate to around 4.3% in the course of 2023 (Chart 2.1).

Chart 2.1 Residential mortgage rates have risen1

Interest rates. Percent

Higher interest costs for new corporate funding

Mainland firms’ interest-bearing NOK-denominated debt primarily comprises bank loans and debt securities. Over the past year, new corporate bank and bond funding has become gradually more expensive.

Floating-rate corporate funding, both bank and market funding, is closely linked to three-month Nibor. The increase in interest rates over the past year primarily reflects a higher policy rate and expectations of further policy rate increases (Chart 2.2). Since September, the Nibor premium has been higher than anticipated in the September Report, mainly owing to higher prices for US money market funding and low structural liquidity in the Norwegian banking system. So far in 2022 Q4, the premium has stood at just below 0.6 percentage point (Chart 2.3). The premium is expected to drift down towards 0.35 percentage point through winter. The projections are close to the market’s pricing of the forward Nibor premium.

Chart 2.2 Higher corporate lending rates2

Interest rates on new floating-rate NOK funding for mainland non-financial enterprises. Percent

Chart 2.3 Money market premium has been higher than projected3

Money market premium. Percentage points

In addition to the money market rate, firms pay a premium on new funding in the form of a margin on bank funding and a risk premium in the bond market. Because total bank debt outstanding is around three times larger than bond debt, firms will be particularly affected by changes in bank lending spreads. Historically, the risk premium in the securities market has been quite volatile, while bank lending spreads on new loans have been relatively stable over a longer period.

Recently, bank lending spreads, as reflected in Statistics Norway’s interest rate statistics, have declined a little. However, a number of surveys, such as Norges Bank’s lending survey for Q3, may indicate that the lending spread will edge up from the current level. The risk premiums on new bond market financing have risen markedly over the past year and continued to rise into Q4. In recent weeks, risk premiums overall fell back to the levels in September. For commercial real estate companies, risk premiums have continued to rise.

A number of firms pay fixed rates on portions of their debt. For these loans, the level of long-term interest rates will have a particular bearing on the cost of new financing. Long rates have increased over the past year but have fallen somewhat since the September Report.

The Oslo Børs Benchmark Index is a little higher than in September but has shown some volatility in the period, with substantial differences in performance across sub-indexes. Aquaculture equities fell sharply after the Government announced a resource rent tax on the aquaculture sector, while manufacturing, technology and materials equities have posted strong advances.

2.3 Krone exchange rate

Prospects for a stronger krone

The krone exchange rate, as measured by the import-weighted exchange rate index I-44, has weakened since the turn of the year, and the period has been marked by considerable volatility. Movements in the krone reflect a more pronounced rise in interest rates among trading partners than in Norway. In addition, high inflation in many countries and Russia’s invasion of Ukraine have given rise to substantial financial market uncertainty. The uncertainty has contributed to a higher NOK risk premium.

On the other hand, high petroleum prices through 2022 have led to a considerable improvement in Norway’s terms of trade. Over time, there has been a relatively close correlation between the terms of trade and the real exchange rate (Chart 2.4). The krone has not appreciated in 2022, as historical correlations with the terms of trade might suggest. This may reflect substantial uncertainty about the persistence of the rise in petroleum prices and developments in other drivers of the krone exchange rate.

Chart 2.4 Weaker krone than implied by terms-of-trade gains4

Relative hourly wage costs in manufacturing and terms of trade. Index. 2000 = 100

Since the September Report, the krone exchange rate has shown considerable volatility, but the krone is now close to the levels seen in September. Movements in the krone overall are in line with the projections in the September Report, despite the decline in petroleum prices and the larger increase in foreign interest rates than in domestic rates. The krone is expected to remain close to its current level in the near term.

Further out, uncertainty in global financial markets is expected to diminish and the krone to appreciate (Chart 2.5). The projections are little changed from the September Report, but there is considerable uncertainty about future movements in the exchange rate. The projections imply that interest rates in Norway will be lower than among trading partners through 2023, for the first time since before the financial crisis. This may suggest a weaker krone than envisaged. On the other hand, global inflation may abate faster than anticipated, which may reduce the turbulence in global financial markets further and lead to a stronger krone. Episodes of low NOK market liquidity may contribute to amplifying krone exchange rate volatility.

Chart 2.5 Stronger krone than implied by the interest rent differential5

Import-weighted exchange rate index (I-44). Difference between three-month money market rate in Norway and among trading partners. Percentage points

3 The Norwegian economy

Consumer prices have risen rapidly, and inflation is markedly above the target of 2%. At the same time, unemployment is low, and the employment rate is high. Wage growth has increased and is projected to increase further next year.

High consumer price inflation and higher interest rates are curbing demand, and the Norwegian economy is assessed to have reached its cyclical peak. House prices have declined in recent months, and household consumption is expected to drift down ahead. Mainland investment is expected to decline from a high level.

From next year, inflation is expected to fall and approach the inflation target further out, on the back of lower capacity utilisation, an easing of international price pressures and a fall in energy prices. Unemployment is projected to rise somewhat, albeit from a low level.

3.1 Output and demand

Slowdown in the mainland economy

Activity in the Norwegian economy has recovered from the pandemic. Revised national accounts figures indicate that activity has been higher through 2022 than assumed in the September 2022 Monetary Policy Report. In 2022 Q3, the mainland economy grew by 0.8%.

At the same time, Norges Bank’s Regional Network contacts report that growth has slowed and they expect activity to decline markedly over the next half year (Chart 3.1). Enterprises in retail trade and other household services expect lower demand owing to weaker household purchasing power. Contacts in the construction industry report lower order volumes due to weak new home sales and lower public demand. Manufacturing is facing dampened prospects due to weaker developments in Norway and abroad, but strong demand from the energy sector softens the decline and contributes to strong growth in oil services.

Chart 3.1 Prospects for a slowdown in activity1

Reported and expected growth according to the Regional Network. Annualised. Percent

The Norwegian economy is assessed to have reached its cyclical peak, with activity declining through winter. House prices have fallen since the September Report, and expectations surveys indicate that that the economy is cooling down. Combined with higher inflation, activity is likely to fall to a further extent in the first half of 2023 than projected in the September Report. This is consistent with the forecasts from our modelling system for short-term forecasting, where a broad set of empirical models are weighted based on their historical forecasting performance (Chart 3.2).

Chart 3.2 Mainland GDP expected to decline2

GDP for mainland Norway. Quarterly change. Seasonally adjusted. Percent

Mainland Norway GDP is projected to increase by 3.6% this year, primarily reflecting an increase in household consumption and business investment (Chart 3.3). Next year, lower consumption results in a 0.2% decline in mainland economic activity. In 2024 and 2025, economic activity is projected to pick up gradually. Increased investment in the petroleum industry and activities related to climate transition lift growth in the years ahead.

Chart 3.3 Lower household consumption reduces growth ahead3

GDP for mainland Norway. Annual change. Percent. Contribution to annual change. Percentage points

High inflation and higher interest rates curb consumption

Household consumption has increased considerably over the past year and continued to grow in 2022 Q3. This primarily reflects an increase in services consumption and spending abroad, while goods consumption has decreased so far this year.

Consumption has been higher than projected despite the fact that high inflation and an increase in interest expenses are reducing household purchasing power. The saving ratio has fallen and was negative in Q3. This may indicate that households have maintained consumption by drawing on accumulated savings. Card transaction data suggest that consumption growth has edged down through autumn, and household confidence indicators are at very low levels.

In the projections, consumption falls by about 1.5% in 2023, after growing by 6.5% in 2022 (Chart 3.4). Real disposable income declines markedly in 2023. A decline in house prices reduces household wealth and dampens consumption as a large share of wealth and debt is related to housing. The projections for consumption assume that households will continue to draw on accumulated savings, especially in 2022 and 2023. The saving ratio turns negative in 2023 and the ratio stays lower in the years ahead than in the years before the pandemic (Chart 3.5). Higher income and lower inflation are then expected to contribute to growth in consumption up to 2025.

Chart 3.4 Lower consumption growth next year4

Household consumption. Constant 2019 prices. Seasonally adjusted. Seasonally adjusted. In billions of NOK

Chart 3.5 Sharp fall in household saving5

Household saving ratio excluding dividends. Percent

Weaker housing market

House prices have fallen by 2.6% since August, and the number of unsold homes has increased markedly. Higher interest rates are expected to continue to pull down house prices in the period to autumn 2023, but house prices will still be 12% higher than pre-pandemic levels. House prices rise gradually thereafter. The projections for house prices are lower than in the September Report (Chart 3.6). See Section 5 for a more detailed discussion of the housing market.

Chart 3.6 Steeper fall in housing investment6

Housing investment and real house prices. Annual change. Percent

Housing investment has fallen more through 2022 than previously assumed. Falling house prices, labour shortages and high material costs have probably contributed to curbing investment recently. Housing investment is set to continue to fall into 2023 on the back of recent lower house prices and very low new home sales. Housing investment is projected to recover somewhat further out.

Business investment slows from high levels

Business investment is at a high level, boosted by a substantial and far stronger-than-expected increase in investment in the services sector in Q1. Regional Network enterprises expect slightly lower investment in retail trade and the services sector ahead.

Strong cost inflation, higher costs for new funding and weaker profitability for many firms are expected to weigh on investment. Business investment edges down in 2023, after rising by almost 17% in 2022 (Chart 3.7). Investment in activities related to climate transition in Norway and abroad are pulling up investment. A marked increase in manufacturing is projected in the years ahead, primarily reflecting large investments in batteries, hydrogen and carbon management (see box in Monetary Policy Report 2/21). Prospects for high electricity demand will likely boost electricity investment from 2023.

Chart 3.7 Investment in sectors other than power and manufacturing will edge lower in 20237

Business investment in mainland Norway. Annual change. Percent. Contribution to annual change. Percentage points

Petroleum investment has declined in recent years as several large projects on the Norwegian continental shelf have been completed. In order for new development projects to benefit from the temporary tax changes introduced in 2020, development plans must be submitted by end-year. As a result, given the many new projects now in the pipeline, petroleum investment is expected to show solid growth in the coming years (Chart 3.8), but the growth projections are lower than in the September Report as some planned development projects have been postponed or cancelled.

Chart 3.8 New development projects increase petroleum investment8

Petroleum investment. Constant 2022 prices. In billions of NOK

Normalisation of external trade

Oil services exports have increased considerably in 2022 on the back of a strong recovery in the global petroleum industry. Normalisation of activity among our trading partners and higher travel activity than during the pandemic have boosted exports from other mainland enterprises. Demand from the petroleum and renewables sectors abroad underpins export growth in 2023, while weaker growth prospects for our trading partners dampen growth for other mainland exports in the coming years. In 2025, export growth picks up, partly reflecting exports from new battery factories. An appreciation of the krone through the projection period dampens export growth slightly.

Cross border shopping and Norwegians’ travel habits are normalising following the pandemic, providing a strong boost to import growth between 2021 and 2022. In the period ahead, imports are projected to grow moderately owing to sluggish growth in the Norwegian economy. Import growth is underpinned by a high level of investment in mainland enterprises and petroleum activities.

Weaker growth in public demand

Growth in public demand has been weak so far in 2022 and is projected to remain weak in 2023 (Chart 3.9). High inflation pushes up public sector costs and will likely dampen public demand in 2023. Against the background of weaker cyclical developments, public demand growth is expected to increase in 2024.

Chart 3.9 Weak growth in public demand9

Public demand. Annual change. Percent

The Government’s budget agreement with the Norwegian Socialist Left Party entails somewhat higher public spending than set out in the Government’s fiscal budget proposal for 2023, but still entails a reduction in public spending next year. Government support for household electricity bills will continue, dampening the effect of high electricity prices on consumer prices. The other proposed changes in household taxes and transfers are not expected to have a material impact on income and consumption prospects, while changes in direct and indirect company taxation may to some extent dampen investment activity in the private sector. Overall, the fiscal stance appears to be broadly in line with the assumptions in the September Report.

The projections are uncertain

The Norwegian economy is slowing down, but the extent of the slowdown is uncertain. More enterprises than normal in the Regional Network, particularly in the business services sector, are uncertain about the evolution of demand ahead. Lower business sector demand may lead to a sharper fall in investment than projected in this Report. There is also uncertainty associated with households’ response to higher inflation, increased interest rates and lower house prices. It is uncertain to what extent households will draw on savings to maintain consumption when their purchasing power declines. Consumption may prove higher than projected if households save a smaller share of their income than assumed.

3.2 Labour market

A tight labour market

Unemployment is low, and the employment rate is high (Chart 3.10). Since the reopening in summer 2021, employment has increased substantially, with 98 000 more employed now than before the pandemic. In 2022 Q3, employment rose more than projected in the September Report, and preliminary figures suggest that employment continued to rise somewhat in October.

Chart 3.10 High employment rate10

Employed as a share of the population aged 15–74. Percent

The sharp rise in employment reflects the further decline in unemployment as well as a large number of labour force entrants. Residents that were previously outside the labour force have become employed, and the number of temporary foreign workers has increased. In 2022 Q3, the number of temporary foreign workers increased further, but the rise was slightly less pronounced than projected in September.

In November, 45 700 persons were registered as fully unemployed with the Norwegian Labour and Welfare Administration (NAV). Adjusted for normal seasonal variations, the unemployment rate remained at 1.6%. This is the lowest unemployment rate since before the financial crisis in 2008 and slightly lower than projected in September. While overall unemployment has remained low, the inflow of new fully unemployed job seekers has recently increased, which may be a sign that the labour market is loosening.

Labour demand is declining from a high level

Labour shortages have eased in recent months, and in November, 39% of Regional Network contacts reported that activity was being constrained by labour shortages. This share is smaller than before summer, when over half of contacts reported labour constraints. Nevertheless, the share is still high.

Moreover, the number of job vacancies is declining from a high level (Chart 3.11). According to Statistics Norway’s sample job vacancy survey, the number of job vacancies fell in 2022 Q3. However, the number remains close to the highest level since the survey was first conducted in 2010. NAV statistics show that although the number of newly advertised vacancies is still high, the number has declined in recent months.

Chart 3.11 Labour demand has declined11

Number of job vacancies in thousands

Prospects for somewhat higher unemployment

In the coming months, employment growth is projected to weaken and the number of employed to begin to decline further out. In November, Regional Network contacts reported that employment had edged up in recent months but expect broadly stable employment over the next three months. The employment outlook was weaker in November than in August in all private sectors except for oil services. Norges Bank’s Expectations Survey also points to weaker employment growth ahead and indicates that the number of employed will begin to decline further out.

The Norwegian economy is assessed to have reached its cyclical peak, which implies weaker employment developments ahead and some decline in the number of employed in the coming years (Chart 3.12). More employees are expected to return to work thereafter as economic activity picks up. In the projections, the employment rate declines somewhat in the coming years and then stays close to its pre-pandemic level (Chart 3.10).

Chart 3.12 Decline in employment ahead12

Employed. In thousands. Seasonally adjusted

The war in Ukraine has led to a rise in the number of refugee arrivals to Norway. There are prospects that the number will increase more in both 2022 and 2023 than projected in September. Some of these refugees are expected to find a job in the coming years. The number of temporary foreign workers in Norway is also projected to edge up further.

In the projections, the unemployment rate increases gradually in the coming years, and then remains around 2.4% (Chart 3.13). This is close to the level of unemployment during the last few years prior to the pandemic.

Chart 3.13 Prospects for somewhat higher unemployment13

Registered unemployed as share of the labour force. Seasonally adjusted. Percent

3.3 Prices and wages

High inflation

Consumer price inflation is now rising rapidly and has been appreciably higher than projected in the September Report. In November, the consumer price index (CPI) was 6.5% higher than one year earlier. The twelve-month change was still somewhat lower than in October. The rapid rise in prices reflects high energy and non-energy commodity prices, strong demand and elevated international price pressures. Inflation is broad-based, and both goods and services inflation have accelerated (Chart 3.14).

Chart 3.14 Broad rise in consumer prices1

CPI. Twelve-month change. Pecent. Contribution to twelve-month change. Percentage points

The 12-month rise in the CPI adjusted for tax changes and excluding energy products (CPI-ATE) also edged lower in November after a marked rise through the year. In November, the 12-month rise in CPI-ATE inflation was 5.7%. Other underlying inflation indicators have risen in line with CPI-ATE inflation (Chart 3.15).

Chart 3.15 Underlying inflation has moved up2

CPI and underlying inflation indicators. Twelve-month change. Percent

The rise in prices for both imported and domestically produced goods and services is high and faster than expected. Prices for food and non-alcoholic beverages in particular rose sharply over the past year. Prices for transport services, furniture and hotel and restaurant services have also risen rapidly. As these price components are normally not affected by the same factors, the current rapid rise in all of these prices indicates that there is a range of different factors, including prices for various intermediate goods, driving up prices right now.

Inflation expectations for the next years have increased (Chart 3.D). Inflation expectations two and five years ahead are now above the 2% target according to Norges Bank’s Expectations Survey for Q4.

Inflation is difficult to forecast

Inflation has been higher than projected for some time. This may be partly because there is little experience with the extent to which high electricity prices and freight rates affect consumer price inflation (see boxes in Monetary Policy Report 4/21 and Monetary Policy Report 3/22). At the same time, it has been a long time since prices have risen as rapidly as is currently the case. Experience from the 1980s has shown that price changes in one sector can spread more quickly to other sectors in periods of high inflation (see "Uncertainty about price dynamics when inflation is high"). If such second-round effects are now in play, various price pressures may have a more pronounced and prolonged effect on inflation today too, than has been the case in recent decades.

In the projections, inflation rises a little further and four-quarter CPI-ATE inflation picks up to 5.9% in 2023 Q1 (Chart 3.16). This is a little higher than indicated by Norges Bank’s empirically based forecasting model.

Chart 3.16 Historical relationships suggest a slower rise in inflation3

CPI-ATE. Four-quarter change. Percent

Freight rates have fallen markedly in recent months, and imported inflation is expected to moderate over the entire projection horizon in response to weaker international price pressures (Chart 3.17). Further out, lower capacity utilisation and a fall in energy prices will have a dampening effect on domestic inflation. On the other hand, higher wage growth and weak productivity growth are expected to contribute to keeping domestic inflation elevated. Overall, four-quarter CPI-ATE inflation is expected to decline gradually to 2.5% at the end of 2025. For most of next year, the projections are higher than in the September Report but are little changed for the remainder of the projection period.

Chart 3.17 Prospects for lower imported inflation4

Domestically produced goods and services and imported goods in the CPI-ATE. Four-quarter change. Percent

Futures prices indicate that electricity and fuel prices pull up CPI inflation through winter. Electricity prices in the CPI are also affected by a number of other factors, such as government support for electricity bills, regional price differences and choice of electricity contract. Owing to unusually large electricity price movements, the uncertainty relating to the overall effect of these prices on CPI inflation in the coming period is higher than normal.

Further out, energy prices are expected to fall markedly. Government support for household electricity bills is dampening CPI inflation. In the projections, government support for electricity bills is reduced somewhat in the summer months next year, in line with the fiscal budget proposal. Four-quarter CPI inflation is expected to remain elevated until 2023 Q1, declining gradually thereafter to 2.4% at the end of 2025.

Higher wage growth in 2023

Wage growth appears to be higher in 2022 than in 2021, partly owing to a very tight labour market. This year’s wage norm rose considerably from 2021 (Chart 3.18). This reflects, among other things, an increase in manufacturing’s ability to pay wages thanks to higher export prices and improved productivity through 2021. Register-based wage statistics indicate that wage growth in the first three quarters of 2022 may have been slightly lower than projected in the September Report, although they still suggest that annual wage growth is on the rise. Many new labour market entrants earn lower-than-average wages. It is assumed that this will in isolation pull down the average wage level somewhat in 2022. Wage growth is projected at 3.9% in 2022.

Chart 3.18 Higher wage growth expected5

Annual wage growth. Percent

According to Norges Bank’s Regional Network and Expectations Survey, wage growth expectations are higher in 2023 than in 2022 (Chart 3.18). The social partners’ wage growth expectations for 2023 have increased since September.

High inflation and continued tight labour market conditions will likely lead to a further rise in wage growth in 2023. Weak productivity growth and prospects for weaker profitability (Chart 3.19) are likely to dampen the rise. Wage growth is projected to rise to 4.7% in 2023, which is close to the social partners’ wage expectations.

Chart 3.19 Weakened business profitability6

Change in operating margins according to the Regional Network and the Expectations Survey

Norway’s terms of trade have improved considerably in 2022, primarily reflecting high gas prices. A little further out in the projection period, increased petroleum revenues are expected to boost activity and lift profitability for mainland firms. In isolation, this points to higher wage growth. Wage growth is still expected to decline from 2024 owing to lower inflation and somewhat higher unemployment. The projection for 2023 has been revised up a little, while projections for the following years are somewhat lower than in the September Report.

There are prospects for a sharp fall in real wages in 2022, after remaining unchanged in 2021 (Chart 3.20). Real wages are expected to remain broadly unchanged in 2023. In 2024 and 2025, real wages are expected to rise again. Overall, the real wage projections for the years 2022 to 2025 are lower than in the September Report.

Chart 3.20 Weak developments in real wages7

Annual change. Percent

Unusually high uncertainty

Developments in price and wage inflation ahead are more uncertain than normal. It is still uncertain how different forces affecting inflation will evolve and impact prices. Inflationary pressures over the past year have been unusually volatile, and the absence of experience with comparable historical episodes makes it difficult to estimate their effect on consumer prices.

At the same time, there is substantial uncertainty about the effects of high inflation on wage and price formation. Inflation expectations for the coming years have increased lately. There is a risk that households and firms will come to expect high inflation and adjust their price and wage setting behaviour accordingly. Inflation dynamics may change more than currently assumed, in which case inflation could stay high for longer, making it difficult to bring it down again.

Inflation may also fall faster and prove lower than currently projected. Energy prices and freight rates, for example, have declined and may also fall faster ahead than currently envisaged. This may lead to weaker external price pressures and a faster decline in inflation than expected.

The effects of higher costs on firms’ prices and wage formation are also uncertain. In the projections for price and wage inflation, higher costs are shared between employers and employees, lowering both business profitability and real wage growth. How those costs are distributed may differ from that envisaged, which could result in a different path for price and wage inflation than expected.

4 Monetary policy analysis

Norges Bank’s Monetary Policy and Financial Stability Committee decided to raise the policy rate from 2.5% to 2.75% at its meeting on 14 December. Based on the Committee’s current assessment of the outlook and balance of risks, the policy rate will most likely be raised further in 2023 Q1. The projections are highly uncertain. If the outlook or the Committee’s assessment of economic relationships changes, the policy rate path will also be adjusted.

Inflation is markedly above the target. The policy rate has been raised to bring inflation down, but it will take time before inflation approaches the 2% target. After having passed its cyclical peak, the Norwegian economy is expected to slow ahead.

4.1 Objectives and recent developments

The primary objective of monetary policy is low and stable inflation. The operational target is annual consumer price inflation of close to 2% over time. From the introduction of the inflation target in 2001 to March 2018, the inflation target was 2.5%. A moving average of the annual rise in consumer prices has been close to 2% over the past 30 years. Inflation has surged recently, and CPI inflation has been at its highest since the end of the 1980s (Chart 4.1).

Chart 4.1 Inflation far above the target1

CPI. Four-quarter change. Percent

Inflation targeting shall be forward-looking and flexible so that it can contribute to high and stable output and employment and to countering the build-up of financial imbalances. The monetary policy strategy is discussed further in "Norges Bank’s monetary policy strategy".

The policy rate has been raised in several steps over the past year to contribute to stabilising inflation around the target. The policy rate was increased to 2.5% in November in line with the projections in the September 2022 Monetary Policy Report.

4.2 New information and new assessments

Model-based interpretation of new information

To shed light on how the effects of new information influence the economic outlook, new information and assessments of the economic situation are incorporated into the modelling system, while conditioning on the policy rate path in the September Report. In this exercise, the main focus is on the outlook for the output gap and inflation, two important considerations to which the Committee gives weight in the conduct of monetary policy.

Underlying inflation has been higher than envisaged in September and inflation is also expected to be higher in the coming period. Further out, weaker prospects for the real economy and lower wage growth in 2024 and 2025 will pull down inflation. In the exercise with an unchanged rate path, inflation becomes higher than projected in September at the start of the projection period but shows little change further out (Chart 4.2).

Chart 4.2 Higher inflation in the near term2

CPI-ATE. Projections conditioned on new information concerning economic developments and the policy rate forecast in MPR 3/22. Four-quarter change. Percent

Capacity utilisation in Q4 is expected to be higher than projected in the September Report but is expected to fall faster ahead. Household real disposable income is lower than projected and the slowdown in the housing market somewhat more pronounced. This suggests a stronger decline in consumption than projected in September. Lower projections for petroleum investment also push down capacity utilisation. Overall, capacity utilisation in this exercise is lower than projected in the September Report in 2023 and over the remainder of the projection period (Chart 4.3).

Chart 4.3 Prospects for lower capacity utilisation3

Estimated output gap. Conditioned on new information concerning economic developments and the policy rate forecast in MPR 3/22. Percent

The model-based interpretation of new information shows the trade-offs facing the Committee when determining the appropriate monetary stance. The inflation outlook indicates a need for a tighter monetary policy than envisaged in September. A higher estimate of capacity utilisation in Q4 pulls in the same direction. On the other hand, lower capacity utilisation ahead implies in isolation a lower policy rate.

A simple rule indicates a higher policy rate

An estimated simple rule based on Norges Bank’s previous policy rate setting summarises the historical pattern of monetary policy reactions (see Monetary Policy Report 2/22).

Given the upward adjustment of the inflation projection, the simple rule now indicates a higher policy rate in the coming quarters than implied by the rule in the September Report (Chart 4.4).

Chart 4.4 A simple rule implies a higher policy rate4

Money market rate. Percent

Forward rates indicate a lower policy rate path

Market policy rate expectations further out can be estimated on the basis of market rates. These policy rate expectations can provide an indication of how market participants have interpreted new information and how they believe Norges Bank will respond.

Since the September Report, market policy rate expectations have fallen for the entire projection period, and policy rate expectations for the coming years are lower than the rate forecast in the current and previous Report (Chart 4.5).

4.3 Monetary policy stance and drivers behind the changes in the policy rate path

As in the September Report, the policy rate forecast indicates a policy rate of around 3% in 2023 (Chart 4.5). From the latter half of 2024, the policy rate is projected to fall gradually. Towards the end of the projection period, the policy rate is projected to be around 2.4%, a little lower than the September projection.

Chart 4.5 Market policy rate expectations have fallen5

Policy rate. Percent

Monetary policy influences the economy through both nominal and real interest rates. A tighter monetary stance is expected to have dampening effect on the economy throughout the projection period.

The rapid increase in the nominal interest rate level restrains economic activity by reducing household real disposable income. Many households will have to cover higher interest payments by lowering consumption. This applies in particular to those unable to draw on savings or increase borrowing.

The projection for the real money market interest rate also indicates that the monetary stance has a contractionary effect in the coming years since the real interest rate is generally higher than what is estimated to be its neutral level of close to zero. The estimate of the real money market rate is a little higher than projected in September for the coming six months (Chart 4.6) and is lower thereafter, in line with a slightly lower policy rate path further out in the projection period.

Chart 4.6 Slightly lower expected real interest rate6

Expected real interest rates four-quarters ahead. Percent

If the economic outlook, the balance of risks or the assessment of the functioning of the economy changes, the policy rate may prove to be different from the one now indicated by the policy rate path. It is particularly challenging to project inflation and capacity utilisation in the present environment, and the Bank’s forecasts have been revised substantially over the past year.

Decomposition of changes in the policy rate path

The Committee’s reasoning for the policy rate decision and forward guidance on the policy rate are presented in the monetary policy assessment. The decomposition shown in Chart 4.7 illustrates some of the main drivers behind the change in the policy rate path from our main model NEMO since the September Report. The bars show contributions to changes in the rate path from our model, and the broken line shows the sum of the bars. The solid line shows the actual change in the rate path.

Chart 4.7 The decomposition indicates small changes in the policy rate path7

Cumulative contributions. Percentage points

Inflation has been higher than projected in the September Report, which pulls up inflation in the near term. Factors relating to prices and wages pull up the model-based path in the first part of the projection period (purple bars).

In the near term, capacity utilisation is assessed to be somewhat higher than expected earlier, but weaker real household income pushes down consumption growth ahead, At the same time, house prices are projected to fall more sharply ahead, leading to lower housing market activity. Overall, domestic demand pulls up the model-based path in the near term and then pulls it down (dark blue bars).

Oil and gas futures prices have fallen since the September Report, especially for the coming year. Further out, petroleum prices are little changed. The projections for petroleum investment are lower than in September, owing to the postponement or cancellation of some planned development projects. Petroleum prices and investment therefore pull down the model-based path (green bars).

Policy rates among trading partners have risen since the September Report in pace with increased inflation. The market’s policy rate expectations for the coming period have risen slightly since the September Report. Economic growth among trading partners has been revised down for the years ahead. Overall, external factors pull up the model-based path in the near term but pull it down towards the end of the forecast horizon (red bars).

The krone has moved broadly as projected in September. According to our modelling system, developments in the interest rate differential against other countries and the fall in petroleum prices should have pulled the krone in a weaker direction. A stronger exchange rate than implied by the model drivers pull the model-based path down somewhat (orange bars).

Overall, the model analysis implies a slightly higher policy rate in the next quarter than projected in the September Report and a slightly lower policy rate from mid-2023.

5 Decision basis for the countercyclical capital buffer

Commercial property prices have risen substantially in recent years, and many households are highly indebted. Household credit growth has slowed in autumn, while corporate credit growth has remained elevated. At the same time, residential and commercial property prices have fallen. Further ahead, property prices are expected to continue to fall and credit growth to slow. Creditworthy households and firms appear to have ample access to credit, even though there are some signs of tighter bank credit standards.

Norwegian banks satisfy the capital requirements and are highly profitable. The countercyclical capital buffer rate of 2.5% helps to ensure that banks remain resilient so that they can perform their tasks effectively, also in the event of economic downturns. Norges Bank’s Monetary Policy and Financial Stability Committee has decided to keep the countercyclical capital buffer rate at 2.5%.

5.1 Access to credit

Creditworthy households appear to have ample access to credit. However, there are some signs of tighter bank credit standards. The banks in Norges Bank’s October Survey of Bank Lending reported that they expected to tighten credit standards for households slightly in 2022 Q4.

The framework for banks’ credit standards for households are regulated in the Lending Regulation. The Ministry of Finance has recently decided to retain the Lending Regulation but is changing, among other things, the requirement relating to the maximum rise in interest rates borrowers must be able to tolerate.1 This may increase the number of people granted a mortgage without breaching the regulatory requirements.

Creditworthy firms also appear to have ample access to credit. In the lending survey, banks as a whole expected no change in corporate credit standards. Some banks, however, reported stricter equity and debt servicing requirements for new commercial real estate (CRE) loans. Most banks also reported increased margins on new CRE loans.

Risk premiums on new corporate bond issues have risen markedly over the past year, particularly for CRE firms. The rise in risk premiums has reduced bond issuance.

5.2 Cyclical vulnerabilities and risks in the financial system

Experience shows that economic downturns are usually amplified if they follow a period of sharp rises in credit and asset prices. Partly owing to low interest rates, property prices rose sharply during the pandemic, and growth in household debt accelerated. In autumn, property prices fell, and growth in household debt slowed. On the whole, the assessment of cyclical vulnerabilities in the financial system is approximately the same as before the pandemic. Property prices are expected to decline ahead, and credit growth to slow further, which may mitigate financial system vulnerabilities further out.

Spillovers in both Europe and globally from the ongoing war in Ukraine and the after-effects of the Covid-19 pandemic are considerable. High inflation, higher interest rates and weaker growth prospects have resulted in considerable financial market volatility and increased the risk of an economic downturn. This entails a greater risk of financial vulnerabilities materialising, which could amplify a downturn and increase bank losses. For a further discussion of the financial stability outlook, see Financial Stability Report 2022.

Rising household interest burdens

Household credit growth has moved down gradually over the past year and a half, reflecting more moderate house price developments and lower housing market turnover, and growth has been a little lower in recent months than projected in the September Report. Household credit growth is expected to decline gradually ahead on the back of higher lending rates and lower house prices (Chart 5.1 and Annex Table 3).

Chart 5.1 Lower credit growth ahead2

Four-quarter change. Percent

Household debt-to-income (DTI) ratios have risen substantially over a long period (Chart 5.2). High income growth, especially in the form of increased dividend income, contributed to the decline in DTI ratios towards the end of 2021. In the projections, DTI ratios increase slightly towards the end of 2023 before moving lower. Furthermore, households will have to spend a larger share of income on interest payments ahead owing to higher lending rates. The interest burden is projected to increase from about 5% in 2022 Q3 to about 8% at 2023 Q3, edging down thereafter. Household debt service ratios, which include both interest and estimated principal payments, are expected to rise to a historically high level. For households with amortising mortgages, principal payments will be reduced when interest rates rise, resulting in a somewhat smaller increase in household debt service ratios than the increase in the interest burden. In addition, many households have the option of deferring principal repayments. In autumn, some banks have reported that use of interest-only periods increased somewhat.

Chart 5.2 Rising household interest burden3

Percent

Norwegian households are now facing increased expenses for interest payments, food and electricity, for example. An analysis in Financial Stability Report 2022 shows that most households are nevertheless able to service their debt. Only between 2% and 3% of homeowner debt is held by households that may have difficulties covering normal expenses and expected higher interest payments with available income and assets. However, many more households will have to tighten consumption. Next year, lower household consumption is expected to weigh down on mainland economic activity (see further discussion in Section 3). The analysis also shows that in a scenario with, for example, high interest rates and a sharp fall in house prices, bank losses may rise owing to household debt defaults. In such a situation, many households may have to cut consumption substantially. This may weaken firms’ earnings and thus their debt-servicing capacity, leading in turn to a further increase in bank losses. This may pose a threat to financial stability.

High corporate credit growth

Growth in corporate credit from domestic sources has increased in 2022 and has been higher than expected (Chart 5.1). The increase is primarily attributable to an increase in bank lending, particularly to manufacturing, services and the CRE sector, which likely reflects higher investment. In line with the investment projections, corporate credit growth is expected to decline next year and stabilise at a lower level. See Section 3 for a further discussion of business investment.

The housing market has turned

House prices rose markedly in many countries during the pandemic. House prices have recently fallen, and central banks in many countries expect a further fall.

House prices in Norway have also risen substantially in recent years (Chart 5.3). High demand and a low stock of unsold homes underpinned house price inflation at the beginning of 2022. In the course of summer, house price inflation slowed and house prices fell in autumn. The fall in prices has been more pronounced than expected in the September Report. In recent months, many homes have been listed for sale, and housing market turnover has been slightly lower than normal (Chart 5.4). This has resulted in a marked rise in the number of unsold existing homes, which may have been amplified by changes in households’ house price expectations. Surveys through autumn show that a growing number of households expect falling house prices ahead. This may have brought forward home sales and postponed home purchases, which may amplify the fall in house prices in the near term.

Chart 5.3 House prices have begun to fall4

Percent

Chart 5.4 Increase in the stock of unsold existing homes5

Number of existing homes. In thousands

New home sales have been low in summer and autumn, reflecting the cooling of the market for existing homes and higher construction costs. Lower prices for existing homes and the low level of new home sales will likely dampen residential construction activity ahead (see also Section 3). Residential construction activity over the past three years has been lower than household formation and is expected to stay lower in the coming years.

The housing market correction has been somewhat more pronounced than envisaged in September. House prices are expected to fall by about 6% between the peak in August 2022 and autumn 2023 (Chart 5.5). In the projections, house prices in autumn 2023 are still about 12% higher than before the pandemic. The fall in house prices primarily reflects higher lending rates. A somewhat sharper fall in house prices is projected in the period ahead than in the September Report, partly owing to the large stock of unsold existing homes and signs of changes in households’ house price expectations. On the other hand, less stringent debt servicing requirements in the Lending Regulation in isolation pull up the projections a little. House price inflation is expected to pick up further out in the projection period.

Chart 5.5 Further fall in house prices expected6

Four-quarter change. Percent

The forecast for house prices is more uncertain than normal owing to uncertainty about macroeconomic developments and households’ response to higher interest rates. For example, housing demand may be more sensitive to interest rate increases than assumed in this Report. Changes in house price expectations may also result in a sharper fall in house prices than projected. A fairly low level of residential construction, however, is helping to mitigate the risk of a sharper fall in house prices.

Decline in commercial property prices

Commercial property prices in Norway and in many other countries have risen substantially in recent years. Selling prices are calculated as rents divided by yield. The rise in selling prices in Norway reflects both higher rents and a lower yield. Over the past year, selling prices have been driven up by a substantial rise in rents.

In 2022 Q3, rents rose markedly, and the yield rose sharply according to the price statistics for prime office space in Oslo. Overall, selling prices edged down (Chart 5.6). A more moderate rise in rents is expected over the next year, reflecting slower growth in the Norwegian economy. The yield depends on developments in long-term interest rates and risk premiums. Despite the recent rise in the yield in Oslo and other European cities, the spread between the yield and long-term interest rates is still narrow. A gradual rise in the yield is expected ahead. Overall, the projections for rents and yields indicate that CRE selling prices will decline ahead, and selling prices are projected to return to pre-pandemic levels over the next year. Projections for selling prices have been revised down a little since the September Report.

Chart 5.6 Commercial property prices are expected to decline7

Estimated selling prices. In thousands of NOK per square metre

Low yields increase the risk of a sharp fall in commercial property prices. If the properties’ mortgage value falls below the value of the loans because of the decline in commercial property prices, banks may incur losses if the loans default. However, the rise in commercial property prices since the financial crisis has not been matched by corresponding borrowing. This has boosted CRE firms’ equity ratios, strengthening their resilience to price falls.

Bank debt accounts for the largest share of CRE firms’ debt, but bond debt is an increasingly important financing source. Bond market and bank risk premiums have increased substantially. A large amount of bond debt issued by CRE firms will mature in the years ahead. Some CRE firms may find it a challenge to issue new bond debt, at the same time as obtaining a bank loan may be more difficult. These challenges may be amplified by a marked fall in commercial property prices.

In line with the projections in this Report, bank losses on CRE exposures are expected to be fairly low ahead. If all CRE firms write down their property values by 30%, simple sensitivity analyses show that many firms could end up with negative equity. 8 Banks may then face higher losses if CRE firms default on their debt. In a severe downturn scenario where commercial property prices are almost halved, banks’ credit losses on CRE exposures may be substantial (see the stress test in Financial Stability Report 2022).

5.3 Banks

Current earnings are banks’ first line of defence against losses. Return on equity for the large Norwegian banks was 12% in 2022 Q3, broadly unchanged from the two preceding quarters. Over the past year, increased net interest income, which is the main source of revenue for Norwegian banks, has boosted profitability.

Banks’ credit losses have been low so far in 2022, primarily reflecting reversals of previous impairment losses. Norges Bank expects reversals to be lower ahead and losses on loans to customers with weak debt-servicing capacity to increase somewhat in response to higher interest rates and high inflation. Overall, credit losses are set to increase somewhat but remain close to the average for the past 20 years. Nevertheless, banks are expected to maintain profitability on the back of increased net interest income.

Norwegian banks are solvent and satisfy the capital requirements by a solid margin (Chart 5.7). The stress test in Financial Stability Report 2022 shows that banks are resilient and that capital buffers help to enable banks to absorb losses and maintain lending in a severe economic downturn. The economic outlook is highly uncertain, and the risk of a downturn has increased over the past year. It is therefore especially important that the financial system remains resilient so that it can perform its tasks effectively also in the event of severe economic downturns and crises. The countercyclical capital buffer requirement helps banks maintain ample loss-absorbing capacity.

Chart 5.7 Banks are well equipped to meet the approved buffer requirements9

Percent. At 2022 Q3

Annex

Detailed tables of projections

Table 1 International projections

1 The aggregate includes: Euro area, China, UK, Sweden, US, Brazil, Denmark, India, Poland, South Korea, Singapore, Thailand and Turkey. Export weights.

2 The aggregate includes: Euro area, China, Sweden, UK and US. Export weights.

3 The aggregate for underlying inflation includes: Euro area, Sweden, UK and US. Import weights.

4 Projections for compensation per employee in the total economy. The aggregate includes: Euro area, Sweden, UK and US. Import weights.

5 In foreign currency terms. Including composition effects and freight rates.

Sources: Refinitiv Datastream and Norges Bank

Table 2a Consumer prices. Twelve-month change. Percent

Sources: Statistics Norway and Norges Bank

Table 2b House prices. Monthly change. Seasonally adjusted. Percent

Sources: Eiendomsverdi, Finn.no, Real Estate Norway and Norges Bank

Table 2d GDP for mainland Norway. Monthly change. Seasonally adjusted. Percent

Sources: Statistics Norway and Norges Bank

Table 2c Registered unemployment (rate). Percent of labour force. Seasonally adjusted

Sources: Norwegian Labour and Welfare Administration (NAV) and Norges Bank

Table 2e GDP for mainland Norway. Quarterly change. Seasonally adjusted. Percent

Sources: Statistics Norway and Norges Bank

Table 3 Projections for main economic aggregates

1 All figures are working-day adjusted.

2 Government Pension Fund Global measured at the beginning of the year.

Sources: Eiendomsverdi, Finn.no, Ministry of Finance, Norwegian Labour and Welfare Administration (NAV), Real Estate Norway, Refinitiv Datastream, Statistics Norway and Norges Bank