Jarle Bergo: Cyclical developments, monetary policy and the krone exchange rate Speech by Mr Jarle Bergo, Deputy Governor of Norges Bank (Central Bank of Norway), at Østfold University College, Sarpsborg, 28 September 2006. The text below may differ slightly from the actual presentation. The speech is based on the assessments presented at Norges Bank’s press conference following the Executive Board’s monetary policy meeting on 27 September, Inflation Report 2/06 and previous speeches. *  *  *  Cyclical developments The cyclical upturn in the Norwegian economy continues. Growth has been strong since mid-2003. Real income growth has been solid in both the household and corporate sectors. Household demand, which spurred the recovery, is still on the rise. Many Norwegian export companies are operating at full capacity with solid profit margins. High prices for Norway’s export goods have contributed to a strong improvement in Norway’s terms of trade. At the same time, there is solid growth in general government demand for goods and services. Fixed investment has gradually become an important driving force behind the economic upturn. Over the past couple of years, increased mainland business investment has contributed to the upturn in the Norwegian economy. Corporate profitability is high and companies are positive about the outlook ahead. The order book situation in manufacturing is highly satisfactory, and optimism appears to be high in most business sectors. According to our regional network, the market situation is also positive for corporate services. Petroleum investment has reached a high level after three years of strong growth.

The exchange rate remained stable up to autumn 1996, partly because wage growth was low and overall demand did not generate pressures in the economy. Gradually, the krone began to show wider fluctuations. The experience of the latter half of the 1990s demonstrated that monetary policy cannot fine-tune the exchange rate. Developments in international financial markets led to more pronounced fluctuations. And more fundamentally, when labour market pressures rose and incomes policy failed, exchange rate developments no longer provided signals to wage formation and fiscal policy. High petroleum revenues, fiscal slippage and expectations of increased government petroleum revenue spending contributed to this. The exchange rate was therefore no longer suitable as a nominal anchor. Towards the end of the 1990s, monetary policy placed emphasis on the fundamental preconditions for exchange rate stability. Monetary policy instruments were oriented in such a way that price and cost inflation was brought down to the price stability objective of the European Central Bank (ECB). Pursuant to the Regulation of March 2001, the mandate for monetary policy stipulates that monetary policy shall be aimed at stability in the Norwegian krone’s internal and external value, thereby contributing to stable exchange rate expectations. At the same time, monetary policy shall underpin  2  BIS Review 90/2006  fiscal policy by contributing to stable developments in output and employment. The operational objective of monetary policy is low and stable inflation, with annual consumer price inflation of approximately 2.5 per cent over time.