nils bernstein : recent economic and financial developments in denmark speech by mr nils bernstein, chairman of the board of governors of the national bank of denmark, at the annual meeting of the danish bankers association, copenhagen, 6 december 2006. * * * thank you for inviting me to speak here at the annual meeting of the danish bankers association. the danish economy is still booming, and there is no sign of any slowdown in the near future. the upswing started in mid - 2003 and has gained momentum since then. originally underpinned by income - tax cuts, the upswing has been gradually reinforced by the remarkable growth in the international economy. in this picture, europe has generally lagged behind the rest of the world, but now that economic growth seems to be receding in the usa, activity is on the increase among our most important trading partners in europe. the danish upswing has brought unemployment down to the lowest level since the oil crisis in the 1970s. in contrast to previous upswings, the balance of payments is still strong and the government surplus rests on a sound structural foundation. however, a complete picture of the danish economy also includes risks. the global imbalances are still significant, with the enormous us current - account deficit as the dominant feature. overall, the imbalances are still generally expected to be redressed over time. the us economy is slowing down due to the receding housing market. the risk of more abrupt adjustment cannot be ruled out, though. however, the danger signals regarding the danish economy come from within. the future course will depend on denmark's ability to tackle the situation. for a long time low inflation and moderate wage increases have been the order of the day in denmark, just like in many other countries. this phenomenon is among other things the result of growing recognition of the favourable economic effects of low inflation. low unemployment combined with continued robust growth in the demand for danish goods entails a risk of the pressure on the labour market leading to higher inflation. it is well - known that this can cause unemployment to rise at a later stage. although this is not considered to be the most likely course of events, the risk of detrimental overheating of the economy is growing. against this background danmarks nationalbank has recommended – and continues to recommend – measures to dampen the overall increase in demand in order to ensure sustained favourable economic development in denmark. danmarks nationalbank has noted that the government has adopted a wait - and - see approach. as

taken into consideration in the annual budget negotiations. in years when fiscal policy has not been used for stabilisation purposes the fiscal impulse, i. e. the contemporaneous contribution to gdp - growth from fiscal policy in a given year, has been close to zero. as is the case in most countries it is also politically easier to increase public expenditure and reduce taxes than the opposite in denmark. however, it is not our assessment that the reliance on a fixed exchange rate and occasional discretionary fiscal policy measures in itself has exacerbated this inherent problem. quite the contrary, the fixed - exchange - rate policy has been instrumental in the significant improvement in danish economic policy that has taken place in the last 10 - 15 years. the danish government, supported by a large majority in the danish parliament, is committed to use fiscal policy if inflationary developments are out of line with the exchange - rate policy. it has been publicly announced that fiscal policy will be adjusted if inflation deviates from the ecb ’ s definition of price stability ( 0 - 2 pct. increase in the harmonised index of consumer prices - hicp ). fiscal measures are taken with due regard for developments in government debt as well as in the current account. indeed, except for 1998 denmark has had a surplus on the current account of the balance of payments since 1990, while there has been a surplus on the government budget since 1997. furthermore and equally important, the fixed - exchange - rate policy has brought structural reforms of the tax and benefit systems and the labour market to the policy forefront as the necessary tools to ensure low unemployment and growth in real income. asymmetric shocks, home - made shocks and exchange - rate policy in denmark a floating exchange rate is often considered useful in order to insulate an economy from certain shocks in a world with nominal wage rigidity and / or limited labour mobility. a fixed - exchange - rate policy can lead to excessive and protracted unemployment in such a world, and adjustment to asymmetric shocks is – at least in theory – an important argument against a fixed - exchange - rate policy. however, the importance of this argument requires answers to the following two questions : 1 ) what causes large positive and large negative output gaps? 2 ) is a floating exchange rate an efficient shock absorber? the danish economy was in severe slump in 1981, reached a peak in 1986, went back into a period of slow growth, bottoming out in 1993, and has grown strongly since and exhausted