Trade tensions reducing growth outlook for the Norwegian economy

Main economic indicators 2009-2022. Accounts and forecasts. Percentage change from previous year unless otherwise noted

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International turmoil can lead to weaker growth impetus

The period with an international economic upturn is assumed to have come to an end. With the prospect of an escalation and expansion of the conflict between the USA and China, we envisage an even weaker international economy going forward. This will mean weaker growth impulses for Norwegian export-oriented businesses. 

Norwegian economy almost cyclically neutral

The Norwegian economy is experiencing a moderate and broad-based economic upturn. For more than two years, GDP growth in mainland Norway has been generally higher than the projected trend growth of just under 2 per cent annually, according to the preliminary figures from the quarterly national accounts (QNA). The upturn looks set to continue in 2019, and will be driven by a high level of investment in the petroleum industry and in manufacturing. From 2020, higher interest rates and lower growth internationally will curb growth, and the Norwegian economy is expected to be almost cyclically neutral in the years leading up to 2022. 

Neutral fiscal policy

The growth in public investment and consumption is expected to be slightly below the trend growth in mainland Norway going forward. The cyclical impulses from public expenditure are nevertheless expected to remain almost cyclically neutral, as the ageing of the population and rising real wage growth lead to increased expenditure on retirement pensions and other benefits. The combination of cyclically-neutral expenditure growth and small changes in the tax level means that the budgetary impulse is expected to remain almost constant throughout the projection period. 

Housing market more balanced than previously

According to our calculations, housing investment will continue to pick up somewhat in 2019 following a strong fall throughout 2018. The recovery is partly due to an upswing in house prices following the shift in the housing market in 2017, making house-building more profitable. House prices continued to rise at a cautious pace in the first quarter of 2019. Increased household income will push up house prices going forward, but the expected rise in interest rates coupled with the decline in population growth means that real house price growth in the years ahead is likely to be modest.

Petroleum investment boosting the Norwegian economy in 2019

After four years of sharply reduced petroleum investment, the trend shifted in 2018, and we expect investments to grow markedly in 2019. The development projects Johan Sverdrup phase 2 and Johan Castberg are the main drivers of this development. Although several investment projects are expected to start in the coming years, the effects of this will be counteracted by lower investments in existing projects. We therefore expect a fairly flat development of petroleum investment in the period 2020–2022. 

Business investment expected to level off

A higher level of investment is expected in oil refining, chemical and pharmaceutical manufacturing, as well as manufacture of basic metals and repair and installation of machinery and equipment in 2019. This follows strong investment growth in manufacturing last year. In addition, power supply companies report further growth in the production stage as a result of the development of several wind farms. Completion of some large individual projects in 2019, however, will see investment levelling off in 2020. Weaker international demand in the years ahead will also curb domestic investment. We estimate that business investment growth will fall from around 4.0 per cent in 2019 to near zero growth in 2022. 

Consumption growth expected to remain high

The consumption is driven by the course of household income, wealth and interest rates. Wage earnings, which are the main source of income for households, are expected to increase in the years ahead, both as a result of higher real wage growth and further growth in employment. Welfare benefit expenditure will also increase due to the ageing of the population and high real wages. Higher interest rates and almost unchanged real house prices will, however, curb consumption growth. Overall, this means that growth in consumption in the years ahead will be just over the trend growth in mainland Norway, but nevertheless considerably lower than in earlier economic upturns. 

Real wage growth set to increase further

Going forward, a cyclically neutral economic situation will provide a basis for higher wage growth, from an abnormally low level, both nominally and in real terms. We estimate growth in annual salaries of 3.3 per cent in 2019, up from 2.8 per cent in 2018, and according to our calculations, this will increase to around 3.5 per cent in 2022. With lower consumer price inflation from next year, real wage growth will thus see a clear increase. Despite this development, the labour cost share will fall slightly, but only to the extent that in 2022 it will be close to the average for the last 30 years. 

Unemployment will stabilise

Unemployment has fallen almost continuously from just over 5 per cent in early 2016 to 3.5 per cent on average from February to April 2019, according to Statistics Norway’s Labour Force Survey. We expect an average unemployment rate of 3.6 per cent in 2019, and for it to remain around this level until 2022. The expected increase in the labour supply means that the unemployment rate will remain fairly stable over the next few years. According to our calculations, the employment rate will rise by around half a percentage point to about 71 per cent in 2020. 

Weak krone in a historical perspective

The depreciation of the krone can only partly be explained by Norway having higher inflation than the euro area. The fact that the krone is weak is not necessarily an indication that it is set to strengthen in the years ahead. Interest rates are higher now in Norway than in the euro area, which may imply that the krone will depreciate if the expected yield is equal for the krone and the euro. Increasing trade tensions may also lead to investors moving their assets from small currencies that are difficult to trade to large and liquid currencies. This in turn could lead to a an even weaker krone. The considerable uncertainty about the development in the exchange rate going forward has led us to assume, as in our previous economic report, unchanged exchange rates throughout the projection period. This means that the import-weighted exchange rate (I44) on an annual basis will weaken by 1.9 per cent in 2019 and that one euro will cost around NOK 9.8 up to 2022. 

Inflation edging towards the target rate

Higher wage growth, the repercussions of a weaker krone and the effects of high energy prices have contributed to the recent rise in inflation. Going forward, the effects of the weak krone are expected to be exhausted, and according to futures prices in the power market, the price of electricity is expected to fall. In addition, oil prices have fallen by almost USD 10 a barrel recently, and the futures market indicates that oil prices will be further reduced in the coming months. Inflation is thus expected to fall slightly in the short term. At the same time, it appears that wage growth, and thereby also the domestic cost growth, will continue to pick up slightly. Consequently, underlying inflation is expected to remain at around 2 per cent in the period from 2020–2022.

Three interest rate hikes expected by end of 2022

Despite increased international turmoil and reduced market growth, interest rates in Norway are set to rise going forward. Norges Bank’s operational goal is for the annual growth in consumer prices to reach almost 2 per cent over time. In addition, monetary policy shall help stabilise production and employment at around the highest possible level that is consistent with price stability over time. We have assumed three interest rate hikes of 0.25 percentage points by the end of 2022, the first of which is expected in June this year. The interest rate on credit lines will then rise to 3.6 per cent in 2022.