will result in an appreciation of the krone, and a lower interest rate will weaken the krone. however, this relationship presupposes that the market is confident that monetary policy provides the economy with a nominal anchor. in some situations, interest rate changes may have the opposite effect. a higher interest rate can weaken the krone if it contributes to a deflationary recession, and a lower interest rate can strengthen the krone if it contributes to preventing a deflationary recession. the interest rate only has a predictable effect on the krone exchange rate when it affects price inflation in the right direction. the interest rate functions in different ways in our two economies. there are also other dissimilarities between the functioning of our respective economies and between our institutional frameworks which may shed some light on the differences between our monetary policy regimes : • denmark has a long history of a fixed exchange rate which inspires credibility ; • denmark ’ s membership of erm ii provides exchange rate policy with an institutional anchor ; • denmark has more stable terms of trade than norway. moreover, there is strong and well - deserved confidence in the ability of fiscal policy to stabilise economic growth in denmark. the most substantial changes in the norwegian terms of trade are due to fluctuating oil prices. variations in denmark ’ s terms of trade are negligible. in this sense the norwegian economy has more in common with countries like new zealand and australia, which are also large exporters of commodities. a substantial change in the terms of trade translates into considerable changes in these countries ’ earnings and balance of payments. over the years this has resulted in sizeable exchange rate fluctuations. the exchange rate is a buffer against changes in the terms of trade. while a country like denmark has maintained a stable exchange rate, commodity - producing countries typically experience fluctuations in the exchange rate in tandem with changes in the terms of trade. in new zealand, australia and many other countries monetary policy is oriented directly towards price stability, and these countries permit short - term fluctuations in the exchange rate. this means that monetary policy bears the primary responsibility for price stability, whereas fiscal policy is to a greater extent oriented towards long - term stability in government finances. in norway, the government petroleum fund acts as a buffer against fluctuations in petroleum revenues. this makes the norwegian economy more robust and in the short term less dependent on oil, at least as long as the government budget is running a substantial surplus. the government petroleum fund is norway ’ s most

##irable fall in inflation, and that it was therefore likely that short - term interest rates in the us will remain low for a considerable period. interest rates in other countries are also likely to remain low. in the euro area, developments have been considerably weaker, even though there are now signs that the trough has been reached. growth among norway ’ s trading partners as a whole is expected to pick up over the next two years. the reserve bank of australia and the bank of england recently raised their key rates. the interest rate in norway has been lowered substantially. the interest rate cuts must be seen in connection with the change in the inflation outlook, which has occurred as a result of weaker global economic developments and low international interest rates. the key rate has been reduced with a view to bringing inflation back to target at the two - year horizon. moderate pay increases in this year ’ s wage settlements and prospects for wage growth falling to a more sustainable level for a prolonged period have been an important factor behind the considerable easing of monetary policy. an interest rate as low as 2½ per cent, however, largely reflects a long period of low interest rates abroad with little prospect of an increase in the near future in the largest economies. weaker developments both abroad and at home have had an impact on the norwegian labour market. unemployment has increased. decisions concerning saving and investment are affected by the real interest rate, that is the nominal rate minus expected inflation. the real interest rate is also low. an enterprise investing in productive capital will typically apply a longer perspective than a household buying durable consumer goods. enterprises ’ cost estimates will be based on the interest rate and expected inflation in the long term, while short - term interest rates and expectations will be more important to households. monetary policy influences inflation indirectly via domestic demand for goods and services and via its effect on the exchange rate. because changes in the economy take time to feed through, monetary policy functions with a lag. it will therefore take time for all the effects of the substantial changes in the interest rate since december 2002 to come into evidence. when interest rates fall, consumption rises both because disposable income increases and because it is less profitable for households to save. borrowing also becomes less costly, with an associated rise in investment. higher demand leads to higher employment. another important mechanism is that lower interest rates make it less attractive to invest in nok. lower interest rates will therefore normally lead to lower capital inflows and a weaker krone. imported goods thereby