Norges Bank Review: Pre-Emptive Price Pessimism
It may not have been a close call, but amid what were divided market expectations, the Norges Bank hiked afresh by 25 bp (to 4.25%), the first such move in two years. Admittedly, it had given a clear pointer in March of at least one rate hike probable in the next couple of months but we had thought that even with the hawkish and active manner of the Board, a stable policy decision outlook for this month was more likely, not least given the similar verdicts its neighbouring central banks already offered of late. We think that the inflation persistence arguments, that actually prevented faster easing before the Middle East conflict broke out, are overdone (Figure 2) and that even with no hike at all, the current Norges Bank policy stance is very restrictive – even on its own assessment with the current policy rate is one ppt-plus above neutral. Admittedly, the Norges Bank is suggesting any hike may be short-lived – something we would agree with the main irony being that the DM central bank with highest policy rate has been the first to restart hiking!
Figure 1: Figure 1: Norges Bank Policy Outlook Suggests Short-Lived Hikes
Source: Norges Bank Monetary Policy Report
While no change in policy was expected from the Norges Bank’s verdict last time around (ie March), the clear shift in rhetoric from the Board was almost inevitable. It dropped its previous repeated assertion that ‘the policy rate will be reduced further in the course of the coming year’ and instead suggested that ‘the policy rate will likely be raised at one of the forthcoming meetings’. Its forecast implied that this would entail one or two 25 bp hikes but that these will be short-lived with the policy rate coming down afresh from early next year (Figure 1). Given the lags in such policy moves taking effect, this questions the need for such a temporary measure other than to underscore hawkish reputation. As a result, we feel the Board is being excessively hawkish and not just on account of the stronger currency seen of late.
Indeed, this clear warning of hiking, let alone the actual deed, was premature to say the least – NB the softening in house prices now emerging is very probably a reaction by households to the reining in of rate cut expectations in recent months, ie prior to the outbreak of the war in Iran, let alone the hiking warning. Admittedly, there was some pick-up in house prices last month, but it was far from even across the country and where recent slowing probably reflects Norges policy caution. Indeed, restrictive policy has helped cause persistently low residential construction
Moreover, the updated Norges Bank forecasts unveiled in March show an even greater output gap emerging and surely this will have more impact in reining in any inflation surge than one or even two 25 bp hikes. Moreover, we question the extent to which the inflation upgrades are realistic with CPI-ATE now seen averaging 3.3% this year and 2.8% next, some 0.6 ppt and 0.4 ppt higher than envisaged three months ago. Some of the upgrade to this year is due to the apparent fact that CPI data have been higher than expected, but is this an indictment of the Board’s forecasting as despite its assertions to the contrary underlying inflation has been reasonably well behaved.
Figure 2: Underlying CPI Inflation Actually Well Behaved
Source: Stats Norway and CE – Core is ex food and energy, 3-mth % chg m/m, seas adj
Indeed, underlying inflation short-term dynamics are far from unfriendly (Figure 2) especially if food is excluded from the targeted CPI-ATE measure. and with seemingly downside economy risks materialising, we still think that the Norges Bank has already been far too cautious as its updated plans point to keeping policy very restrictive through the projected timeframe out to 2029, ie the policy rate stays well above 3%. For some time, we have argued that Norges Bank’s fixation with apparently resilient inflation was overdone, resulting in overly cautious policy-making, the latter also fixated by the exchange rate.
Given Norges Bank caution, we remain far less confident about the extent of any eventual easing, this now having been deferred into 2027. More likely, we envisage some 100 bp of cuts through next year. At 3.25%-3.5%, that would still leave the policy rate still well above its own estimated neutral rate. In other words, the Norges Bank will be merely keeping its foot on the brake, rather than pressing on the accelerator.