svein gjedrem : the conduct of monetary policy introductory statement by mr svein gjedrem, governor of norges bank ( central bank of norway ), at the hearing before the standing committee on finance and economic affairs of the storting ( norwegian parliament ), oslo, 22 may 2006. please note that the text below may differ slightly from the actual presentation. the statement is based on norges bank ’ s annual report for 2005, inflation report 1 / 2006 and the executive board ’ s assessments published after the monetary policy meeting on 26 april. the charts in pdf - format can be found on the norges bank ’ s website. * * * i would like to thank the chairman of the committee and also thank for this opportunity to report and answer questions on monetary policy in connection with the storting ’ s deliberations on the government ’ s credit report. the account is based on the bank ’ s annual report, but is also updated based on the executive board ’ s assessments for the period to the preceding monetary policy meeting. economic policy in norway faces particular challenges. low prices for imported goods and services, combined with high prices for export goods, have led to substantial terms - of - trade gains for norway. the norwegian economy has experienced a strong positive income shock. such a pronounced improvement in the terms of trade has in fact not been observed since the first world war. real national disposable income will increase by 25 - 30 per cent in the period 2003 - 2006. so far, the increase in income has not led to a pronounced rise in price and wage inflation. businesses are using resources with steadily greater efficiency and the supply of labour has been ample. nevertheless, in the face of such strong external influences, it is demanding to smooth developments in the norwegian economy. our stabilisation policy rests on four pillars, which were established in the 1990s and in 2001 against the backdrop of the wide fluctuations in economic developments during the first twenty years of the oil age in norway. under the oil fund mechanism, increased government petroleum revenues are invested abroad. this curbs the impact of price fluctuations on domestic demand and production - and on inflation and the krone exchange rate. a floating krone exchange rate also has a stabilising effect, as the exchange rate normally appreciates in favourable periods and depreciates during adverse periods. at the same time, the fiscal rule that provides for a steady phasing - in of petroleum revenues and the inflation target

the supply of labour from other countries is important for many industries, but on the whole is no longer offsetting increased flows into benefit schemes. there is competition for highly skilled labour in the new eu accession countries. labour flows into the uk and ireland have been particularly high and labour barriers may be more restrictive in norway than in the uk and ireland. activity has picked up in central european countries, and the swedish labour market has become tighter. therefore, it is uncertain how large the supply of labour from these countries will be in the period ahead. household debt has risen sharply since the mid - 1990s. at the same time, house prices have increased markedly. to some extent, developments in the 1990s can probably be viewed as a delayed adaptation to the deregulation of the housing and credit markets in the 1980s, after many households burned their fingers in the wake of deregulation. in recent years, household income growth has been solid and household confidence in the future is very high. coupled with expectations of low real interest rate over time, this may have provided an additional boost to house prices. long periods of sharply rising asset prices and debt may be a potential source of subsequent instability in output and employment. the sharp rise in house prices and debt in other countries are probably also ascribable to low real interest rates over time. household debt is high in norway, but is even higher in denmark and the netherlands. this probably reflects a long history of well developed mortgage financing in these countries. inflation stabilised early in the 1990s after falling from a high level in the previous decade. through the 1990s, inflation generally remained in the interval 1½ – 3½ per cent. inflation has varied slightly more in the past few years. in a period of increasing cross - border labour flows, major technological advances, changes in competitive conditions and substantial changes in trade patterns, inflation will probably, with our very open economy, show somewhat wider variations, as witnessed over the past two to three years. the operational objective of monetary policy is low and stable consumer price inflation. over time, the consumer price index will provide a guide for assessing monetary policy. monthly variations in consumer prices reflect temporary conditions which monetary policy cannot control. according to norges bank ’ s remit, the bank shall not normally take account of direct effects on consumer prices of changes in interest rate, excise duties and extraordinary, temporary disturbances. energy prices have traditionally shown wide variations. hence, a price index that is adjusted for variations in such prices as well