IMF Executive Board Concludes 2017 Article IV Consultation with Norway

July 5, 2017

The Executive Board of the International Monetary Fund (IMF) concluded the Article IV

Consultation [1] with Norway on June 30, 2017 and considered and endorsed the staff appraisal without a meeting on a lapse-of-time basis [2] .

Following two years of economic downturn, the Norwegian economy is slowly recovering from the oil shock as domestic demand grew stronger aided by accommodative macroeconomic policies. Unemployment has been trending down since last summer’s peak. Inflation declined recently due to the pass-through of krone appreciation, but expectations remain well-anchored. In addition, banks remain profitable and well capitalized. However, household debt built up further, and house prices continue to rise albeit at a slower pace in recent months.

Mainland growth is projected to increase from just below 1 percent in 2016 to 1¾ and 2¼ percent in 2017 and 2018 respectively, supported by the recovery of exports and stronger private demand. Oil investment will continue to decline this year, but to a lesser extent before rising moderately in 2018. As demand grows stronger and capacity constraints relax further, unemployment rate is expected to gradually decline to just below 4 percent by 2018. Inflation is projected to edge down further in pace with the unwinding of krone depreciation, before converging to the target over the medium term as trading-partner inflation rises.

The baseline outlook is subject to external risks of weaker than expected global growth, which could delay the recovery of non-oil exports; re-emergence of European bank stress and policy uncertainties in Europe, which could increase financial market volatilities and lead to liquidity strains in banks with high dependence on wholesale funding; and lower energy prices, which could weigh on the recovery. On the domestic side, the risks of ineffective integration of immigrants and refugees to productive employment could hinder the progress of economic transition. A substantial correction of house prices could dampen consumption and corporate earnings, creating negative spillovers on banks’ balance sheets.

The 2016 fiscal outturn implied a stimulus of 0.6 percent of mainland trend GDP. The non-oil structural balance, at 7.2 percent of mainland trend GDP (equivalent to 2.6 percent of GPFG), was still well below the fiscal target of 4 percent of GPFG. The 2017 budget entails further stimulus given the economic slack, generating a slightly smaller fiscal impulse of 0.5 percent of GDP. This is consistent with a tighter fiscal target from 2017 onwards, based on government’s decision to lower the target from 4 to 3 percent along with the adjustment of equity share from 62.5 to 70 percent of the investment portfolio.

Executive Board Assessment

In concluding the 2017 Article IV consultation with Norway, Executive Directors endorsed staff’s appraisal as follows:

The mainland economy is bottoming out from the oil-related downturn and is expected to continue to recover at a modest pace. Stronger domestic demand supported by accommodative fiscal and monetary policies has underpinned a recovery since late 2016 and unemployment has started falling. Inflation expectations remain well anchored despite recent declines in inflation due to low wage growth and earlier krone appreciation. The recovery is expected to continue with improving consumer and business confidence and expanding production. But housing market vulnerability has risen with overvalued and rising house prices and elevated household debt.

Norway’s external position is moderately weaker than implied by medium term fundamentals. While Norway’s net international investment position remains strong, the current account position has weakened as oil prices remain low and non-oil tradable exporters continue to face cost competitiveness challenges, especially given moderate appreciation of Norway’s real exchange rate during 2016. While there has been some progress in rebalancing economic activity toward the non-oil sector, it remains incomplete. Further structural reforms to improve cost competitiveness and productivity growth would support this economic rebalancing and improve non-oil export performance.

Advancing the economic rebalancing towards a less oil and gas dependent growth model is becoming more urgent. With lower oil prices seemingly the new norm, sustaining longer-term growth will need to rely on boosting non-oil sector activities, which is challenging given low productivity growth, high labor costs, and falling labor force participation rates among immigrants, men, and the young in face of an aging population. Addressing the challenges requires reallocating resources to the non-oil sectors, reviving productivity growth, further improving cost competitiveness, and promoting high-skilled labor supply.

The expansionary fiscal stance is broadly appropriate this year, provided the measures are pro-transition. The further fiscal stimulus in 2017 appropriately supports the recovery, with measures to combat unemployment, improve infrastructure and R&D, and implement the tax reform. Given the significant output gap, fiscal policy should remain supportive until the recovery is on a more solid footing, and the stimulus measures should facilitate a smooth economic transition. As growth gathers steam, the fiscal stance should converge to neutral to help contain Dutch Disease effects. The recent tightening of the fiscal rule is welcome as it helps conserve oil revenue to address aging-related fiscal challenges. Further tax reforms should be considered to promote an efficient allocation of resources and sustain longer term growth.

Monetary policy should stay accommodative. Given the slack in the economy and weakened inflation outlook, maintaining an accommodative monetary policy stance is appropriate pending a durable recovery. Further easing could be considered in the event of significant downside surprises on growth and inflation. Financial stability concerns arising from a “low for long” interest rate environment warrant great caution, but they should be addressed primarily through macroprudential measures as well as tax and housing market reforms.

Significant policy actions have been taken to address financial stability risks, but continued vigilance and further measures are needed. Financial vulnerabilities have increased in the context of overvalued and rising housing prices, increasingly elevated household debt and higher money market premia. Important steps have been taken to cope with the build-up of financial imbalances, including recent decisions to raise the CCB, tighten mortgage regulations, and introduce the DTI limit and LR requirements. However, continued vigilance is needed and further targeted measures should be considered if vulnerabilities in the housing sector intensify. The close supervision on banks’ risk management and underwriting standards in the CRE sector, as well as efforts to increase CRE risk weights and to apply capital add-ons on banks with high concentration on CRE lending, should continue. Deployment of macroprudential tools to contain banks’ CRE exposures, such as loan-to-value (LTV) limits and/or a sectoral CCB, should be biased to being ahead of the curve. Moreover, macroprudential policies should be reinforced by tax and housing market reforms, including reducing tax preferences for housing, relaxing constraints on new property construction, and developing the rental market. The authorities should also implement the liquidity coverage ratio requirements in significant currencies―currently under consideration—and continue to enhance stress tests for banks to take account of funding risks.

A successful economic transition hinges on continued structural reforms. Wage restraint and labor market reforms should continue to improve cost competitiveness, facilitate economic rebalancing, and support labor supply. Reviving the growth engine in the non-oil sector also hinges on promoting high-quality employment and boosting productivity through reforms to education, innovation, and product market regulations. In addition, further reforms to the public-sector pension system and sickness and disability benefits will help promote labor force participation. There is also scope for efficiency gains from lowering the level of protection and subsidies for agriculture.

Table 1. Norway: Selected Economic and Social Indicators, 2012–18

Population (2016): 5.3 million

Per capita GDP (2016): US$ 70,750

Quota (3754.7 mil. SDR/0.78 percent of total)

Main products and exports: Oil, natural gas, fish (primarily salmon)

Literacy: 100 percent

Projections

2012

2013

2014

2015

2016 est

2017

2018

Real economy (change in percent)

Real GDP 1/

2.7

1.0

1.9

1.6

1.1

1.2

1.7

Real mainland GDP

3.8

2.3

2.2

1.1

0.9

1.7

2.3

Domestic demand

3.5

3.5

1.6

0.7

1.7

1.9

2.2

Unemployment rate (percent of labor force)

3.2

3.5

3.5

4.4

4.7

4.0

3.8

Output gap (mainland economy, - implies output below potential)

0.2

0.0

-0.1

-1.0

-1.3

-0.9

-0.5

CPI (average)

0.7

2.1

2.0

2.2

3.6

2.3

2.0

Gross national saving (percent of GDP)

39.0

38.2

39.2

36.9

34.0

34.5

34.9

Gross domestic investment (percent of GDP)

26.5

27.9

28.1

28.2

29.1

28.6

28.9

Public finance

Central government (fiscal accounts basis)

Overall balance (percent of mainland GDP) 2/

12.8

9.5

6.0

1.3

-3.1

-2.5

-2.2

Structural non-oil balance (percent of mainland trend GDP) 3/

-4.9

-5.2

-5.9

-6.5

-7.2

-7.7

-7.8

Fiscal impulse

0.5

0.3

0.7

0.6

0.6

0.5

0.1

in percent of Pension Fund Global capital 4/

-3.4

-3.3

-3.0

-2.7

-2.6

-2.9

-3.0

General government (national accounts basis, percent of mainland GDP)

Overall balance

17.5

13.4

10.6

7.0

3.5

5.2

5.6

Net financial assets

224.7

263.2

306.5

335.7

325.6

322.1

316.7

of which: capital of Government Pension Fund Global (GPF-G)

166.6

208.1

253.8

284.8

276.5

275.2

272.0

Money and credit (end of period, 12-month percent change)

Broad money, M2

4.9

7.3

6.4

0.6

5.1

…

…

Domestic credit, C2

5.9

6.8

6.0

6.1

4.7

…

…

Interest rates (year average, in percent)

Three-month interbank rate

2.2

1.8

1.7

1.3

1.1

1.4

1.4

Ten-year government bond yield

2.1

2.6

2.5

1.6

1.3

1.6

1.6

Balance of payments (percent of mainland GDP)

Current account balance

16.1

13.0

13.7

10.3

5.6

6.9

7.0

Exports of goods and services (volume change in percent)

1.4

-1.7

3.1

3.7

-0.5

0.6

1.6

Imports of goods and services (volume change in percent)

3.1

4.9

2.4

1.6

0.8

2.6

2.9

Terms of trade (change in percent)

2.8

0.0

-6.3

-11.7

-9.9

4.9

1.1

International reserves (end of period, in billions of US dollars)

51.7

57.9

66.9

58.5

60.9

61.7

60.6

Fund position

Holdings of currency (percent of quota)

71.1

78.2

85.6

89.8

93.9

…

…

Holdings of SDR (percent of allocation)

96.1

95.1

94.8

96.4

88.3

…

…

Quota (SDR millions)

1,884

1,884

1,884

1,884

3,755

…

…

Exchange rates (end of period)

Exchange rate regime

Floating

Bilateral rate (NOK/USD), end-of-period

5.8

5.9

6.3

8.1

8.4

…

…

Real effective rate (2010=100)

100.3

98.9

94.0

86.3

86.4

…

…

Sources: Ministry of Finance, Norges Bank, Statistics Norway, International Financial Statistics, United Nations Development Programme, and Fund staff calculations.

1/ Based on market prices which include "taxes on products, including VAT, less subsidies on products".

2/ Projections based on authorities's 2017 revised budget.

3/ Authorities' key fiscal policy variable; excludes oil-related revenue and expenditure, GPF-G income, as well as cyclical effects.

4/ Over-the-cycle deficit target: 4 percent, which is changed to 3 percent in 2017


[1] Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.

[2] The Executive Board takes decisions under its lapse-of-time procedure when the Board agrees that a proposal can be considered without convening formal discussions.

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