This Selected Issues paper reviews the main elements of the National Insurance Scheme (NIS) and the Family Allowance Scheme (FAS) in Norway and provides projections of future pension expenditures. All persons residing or working in Norway are insured under the NIS, and the system is financed on a pay-as-you-go basis through contributions and from general tax revenue. The paper demonstrates that indexing pensions to wages, in line with recent practice, would result in a large net liability by the year 2050, which could be reduced by indexing pensions instead to consumer prices.


This Selected Issues paper reviews the main elements of the National Insurance Scheme (NIS) and the Family Allowance Scheme (FAS) in Norway and provides projections of future pension expenditures. All persons residing or working in Norway are insured under the NIS, and the system is financed on a pay-as-you-go basis through contributions and from general tax revenue. The paper demonstrates that indexing pensions to wages, in line with recent practice, would result in a large net liability by the year 2050, which could be reduced by indexing pensions instead to consumer prices.

V. Recent Developments in the Norwegian Financial System29

A. Introduction and Summary

97. In conjunction with the 1997 Article IV consultation, the Fund staff prepared an overview of the Norwegian banking crisis of 1988-93, the subsequent recovery, and challenges facing banks and their supervisors at the end of 1997.30 This note provides an update on the health of the banking system, structural changes in the financial system, and regulatory initiatives taken during the past year.

98. Last year’s report noted that timely intervention and effective coordination among the responsible public agencies during and after the last banking crisis, in ways that minimized moral hazard, helped to contain the costs to society as a whole and enabled Norwegian banks to resume playing an active role in financial intermediation early in the subsequent economic recovery. Nevertheless, recent trends in lending practices, profit margins and capitalization had underscored the importance of effective surveillance by the supervisory authorities. In addition, the report noted that it would be important to ensure that mechanisms were in place to encourage further efficiency gains, such as the elimination of the government’s remaining ownership stake in Norway’s largest commercial banks. Finally, macroeconomic policy had an essential role to play in protecting the stability of the banking system, by helping to avoid an unduly rapid expansion of credit. Developments during 1998 have not resulted in any significant modification of these conclusions. The structure of the banking system has not changed significantly. Meanwhile, squeeze on banks’ profit margins and capitalization has continued (albeit from a reasonably comfortable base) and, given the recent downturn in oil prices and maturation of the recovery, it seems clear that the banks will need to restore their profit margins in order to make room for the inevitable increase in loan loss provisions. Further consolidation in the Norwegian banking sector is likely to be a part of this process.

B. Overview of the Norwegian Financial System

99. The Norwegian financial system is relatively small and competitive. At end-1997 the Norwegian banking system comprised Norges Bank (the central bank), 14 commercial banks (one foreign-owned), 133 savings banks, the postal savings bank, and 6 Norwegian branches of foreign banks; there were also 12 overseas branches of Norwegian banks. Other financial institutions included 37 finance companies, 8 mortgage companies, 2 loan intermediaries, and 12 Norwegian branches of foreign finance and mortgage companies.

100. The two largest commercial banks (Den Norske Bank and Christiania Bank (Kreditkassen)) became almost entirely government-owned during the response to the banking crisis, and the government’s ownership stake remains slightly above 50 percent. The fourth largest bank is the publicly-owned Postal Savings Bank. These three institutions accounted for about 45 percent of the total assets of Norwegian commercial and savings banks at end-June 1998.

101. In recent years the Norwegian banking and insurance markets have become dominated by integrated financial groups and conglomerates, with about two-thirds of domestic financial services accounted for by the eight largest conglomerates at end-1997. Kredittilsynet (Norway’s banking, insurance, and securities commission), was established in 1986 through the merger of pre-existing institutions, as a comprehensive supervisory authority for banks, insurance companies, securities firms, real estate agents, accounting and auditing companies. In 1988 its jurisdiction was extended to other non-bank financial institutions and financial groups. Kredittilsynet cooperates closely with Norges Bank and the Ministry of Finance.

C. Financial Developments During 1998

102. Developments in the Norwegian banking sector during the first half of 1998 were mainly driven by the continued cyclical upturn in the domestic economy. Total domestic credit continued to expand at an annual rate of about 10 percent, about the same as in 1997 and well above the growth rate of nominal GDP (see tabulation below). Bank credit to the private sector rose at annual rates in excess of 15 percent in 1997 and the first half of 1998, reflecting a very rapid expansion of bank credit to enterprises and continued strong demand for housing loans. Owing to a much smaller increase in the base of customer deposits, the increase in bank credit has been funded mainly from short-term external loans and deposits. Data for subsequent months suggest that there has been a slowing of credit growth, due to expectations of a slowing of economic activity, the decline in oil prices, and the near-doubling of short-term interest rates since end-June 1998.31

Norway: Growth of Domestic Credit

(percent change over 12 months)

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Source: Norges Bank

103. In parallel with the strong increase in lending, Norwegian banks have experienced a further decline in profit margins and capital/asset ratios during 1997-98 (Tables 2 and 3). The decline in profits has been attributed mainly to pressures on lending spreads in response to increased domestic and foreign competition. Profit margins remained broadly in line with historical experience, while capital/asset ratios were in excess of the prescribed minima. However, the supervisory authorities expressed concern that the recent high rates of credit expansion had set the stage for an increase in loan losses in the coming years. As Norwegian banks would continue to face strong competition from abroad, while economic growth was expected to moderate, there would be further pressure on lending spreads. Under these circumstances, the natural tendency would be for capital adequacy ratios to decline. This was not, however, expected to pose a significant danger of another banking crisis, as Norwegian banks were much better capitalized than they had been at the onset of the 1988 crisis and both households and enterprises had significantly stronger balance sheets and debt servicing capacity. Sensitivity analyses suggested that this would continue to be the case even if the current high level of domestic interest rates were to persist for some time. In view of its rapid recovery from banking crisis and more adequate level of capitalization since 1993, in recent years the Norwegian banking sector has been rated favorably by agencies such as Moody’s and Standard & Poor. Ratings services have not downgraded the major Norwegian banks in the face of weaker profit performance in the latest quarters.

104. Norwegian banks have little direct exposure to emerging markets. Total foreign lending by Norwegian banks amounted to Nkr 40 billion at end-1997 (equivalent to about US$5.5 billion), compared with total bank assets of Nkr 983 billion. However, most of this lending was to industrial countries in Europe and North America. According to BIS data, Norwegian bank lending to countries in Eastern and Central Europe amounted to only US$157 million at end-1997, while lending to other developing countries (mainly in Asia) totaled only US$319 million.

105. The banks also have relatively little exposure to equity markets. As of mid-1998, the major Norwegian commercial banks held only 0.6 percent of their assets in shares and 5.3 percent in bonds; the comparable figures for the largest savings banks were 0.8 percent and 3.2 percent. However, as noted above, the Norwegian financial sector is dominated by financial groups (conglomerates) which typically involve both banking and insurance companies. At mid-1998 life insurance companies held 21.9 percent of their assets in shares and 36.1 percent in bonds, while the comparable figures for the five largest non-life insurance companies were 14.5 percent and 27.7 percent. Not surprisingly, insurance company profits were sharply reduced in the first half of 1998. Between June 30 and September 30, 1998, the Oslo total share index fell by a farther 31 percent. In an analysis prepared before financial results for the third quarter were available, Kredittilsynet studied the likely consequences of the downturn in stock prices and concluded that this would have erased just over half of the reserves of life insurance companies.32 There has also been a smaller, but significant, depletion of reserves for non-life insurance companies. However, solvency capital is expected to remain well above the margins required by EU directives.

106. Norwegian commercial and savings banks make considerable use of external financing to fund their lending operations, resulting in a net external liability position equivalent to about 13 percent of their total assets (or 12 percent of GDP) as of June 1998. According to the authorities there are no potential problems with currency mismatches. However, the short-term nature of most of this external financing combined with the generally greater volatility of international capital flows implies the potential for a liquidity squeeze in response to developments in overseas markets, a factor which the authorities are monitoring closely.

D. Supervisory Initiatives and Structural Changes

107. In the wake of the banking crisis, staff and other resources of Kredittilsynet were increased significantly, inter alia to permit more frequent on-site examinations of banks and to strengthen its supervision of insurance companies and conglomerates.33 Kredittilsynet also tightened reporting and disclosure rules and developed a system of indicators for early warning of potential liquidity and solvency problems. A major focus of on-site examinations is the adequacy of banks’ internal systems for risk assessment and management. In 1996 the CAD-directive was implemented under which the adequacy of banks’ capital is assessed in relation to the risk of loss in their individual portfolios.

108. Building on earlier practices, in 1993 additional guidelines were established for collaboration between Kredittilsynet and Norges Bank in the exchange of information, contacts with financial institutions, development of regulations, economic and financial analysis, and statistical reporting (in cooperation with Statistics Norway). Kredittilsynet and Norges Bank initiated a program of macroeconomic surveillance, intended to supplement supervision of individual institutions with an assessment of threats to the stability of the sector as a whole. Under this program, Kredittilsynet and Norges Bank each report twice a year on economic and financial conditions in the sector, new developments and trends, and scenarios of the future financial strength of supervised institutions.

109. At the request of the Ministry of Finance in late 1997, Kredittilsynet investigated whether an increase in the Tier 1 capital requirement for banks might be warranted in light of recent strong growth in domestic credit and concerns about future capital adequacy. At that time, Norwegian banks were subject to a requirement that total capital be not less than 8 percent of risk-weighted assets, with a minimum of 4 percent of risk-weighted assets to be held in the form of Tier 1 capital.34 In its conclusions, conveyed to the Ministry in February 1998, Kredittilsynet noted that control of credit growth is primarily the responsibility of macro policies. It further indicated that capital adequacy requirements should be predictable, stable over time, and in line with those of other member countries of the European Economic Area (the European Union plus Iceland, Liechstenstein, and Norway). While it considered that an increase in the minimum Tier 1 capital requirement from 4 percent to 6 percent could be warranted in light of the situation in financial institutions, Kredittilsynet declined to recommend such a change after taking into account the negative effect on the competitive position of domestic financial institutions and on the credit market. However, it did propose two other changes in prudential regulations: (a) an increase, from 50 percent to 100 percent, in the risk weighting attached to mortgage loans for 60-80 percent of prudent valuation of the underlying property; and (b) a tightening of the conditions for use of subordinated loan capital, to encourage greater use of own funds, under which new subordinated loan capital with a fixed maturity would not normally be approved if Tier 1 capital was below 7 percent of risk-weighted assets.

110. The government decided in May 1998 to adopt these proposals. In August Kredittilsynet issued guidelines specifying that Norwegian banks would not be allowed to include new subordinated debt in their capital base if the Tier 1 capital ratio was below 7 percent. However, as an exception, Kredittilsynet could approve such capital for an institution that had a Tier 1 capital ratio between 6½ and 7 percent, provided that the institution had a low-risk loan portfolio or a particularly good risk management system. These guidelines do not apply to subordinated loans that replace existing subordinated loans in the capital base.

111. While the competitive environment facing Norwegian banks suggests that there will be a trend toward consolidation, there are legal impediments to bank mergers and acquisitions. These include provisions that no investor may acquire more than a 10 percent ownership stake in a financial institution (waived temporarily for the government’s takeover of major commercial banks during the banking crisis); that purchase of a bank requires approval by at least 90 percent of its shareholders; and that a one-third vote of shareholders is sufficient to block a change in corporate statutes (e.g., merger, change in share capital, or relocation of the corporate headquarters). A commission appointed by the government to revise the banking law has suggested relaxing the 10 percent ownership limit in the case of acquisitions by foreign banks, in order to facilitate strategic alliances within the region. This proposal is currently under consideration at the Ministry of Finance. Meanwhile, however, there has been relatively little merger activity in Norway in recent years, in contrast with other Scandinavian countries, as a number of proposals have been blocked by shareholders (in some cases, by the government). A bid from Den Danske Bank for Fokus Bank has got acceptance from 90 percent of the shareholders. They are now expected to apply for approval from the authorities.

112. As noted above, the government is majority owner of Norway’s two largest commercial banks. In late 1997 the government announced its intention to reduce its ownership stake in these banks to 33 percent. This intention was not carried out during 1998 as a result of changes in the management of the affected institutions and a sharp decline in the market value of the government’s shareholding, and has been reasserted as a policy intention for the coming year. More broadly, the government has indicated that it intends to maintain a controlling interest in these banks indefinitely in order to secure a substantial element of national ownership of the Norwegian banking sector.

113. Norges Bank has developed a real-time gross settlements system for large-value transactions (described in last year’s report), which went into operation in June 1998. With the imminent completion of the third stage of European Monetary Union, the euro is expected to become an increasingly important currency for trade and financial transactions involving Norwegian firms, and Norwegian banks would be at a significant disadvantage if they were unable to offer competitively-priced euro services. The Norwegian authorities have thus engaged in discussions with the European Central Bank on possible means for providing access for Norwegian banks to the TARGET system for interbank settlements in euros. Norges Bank has indicated its willingness to act as an intermediary in such settlements; in addition, some large Norwegian banks will be able to access the TARGET system directly through their offices in EMU member countries.

Table 2.

Norway: Bank Profitability, 1980-1998 1/

(In percent of average total assets)

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Source: Norges Bank.

Due to changes in definitions, data for 1980-86 are not fully comparable with those for later years.

Data for the 24 largest savings banks until 1992, and the 30 largest savings banks thereafter.

Table 3.

Norway: Bank Capitalization, 1981–1998

(In percent of applicable asset base)

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Sources: Norges Bank and OECD.

Commercial bank data are for parent banks.

Data for the 24 largest savings banks until 1992, and the 30 largest savings banks thereafter.


Table A1.

Norway: Demand and Supply

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Source: Statistics Norway.

Changes in percent of previous year’s GDP.

Excludes items related to petroleum exploitation and ocean shipping.

Table A2.

Norway: Final Consumption Expenditure of Households

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Source: Statistics Norway.
Table A3.

Norway: Household Income and Saving

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Source: Statistics Norway; and Ministry of Finance.

Deflated by the private consumption deflator.

Table A4.

Norway: Gross Fixed Investment

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Source: Statistics Norway.

Excludes items related to petroleum exploitation and ocean shipping.

Table A5.

Norway: Real GDP by Sector

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Source: Statistics Norway.

Excludes items related to petroleum exploitation and ocean shipping.

Table A6.

Norway: Indicators of Petroleum Activities

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Sources: Statistics Norway; and Ministry of Finance, Nasjonalbudsjettet.
Table A7.

Norway: Indicators of International Competitiveness and Trade Performance

(Annual percentage change)

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Sources: Statistics Norway; and IMF Research Department.
Table A8.

Norway: Exports of Goods and Services

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Source: Statistics Norway.
Table A9.

Norway: Imports of Goods and Services

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Source: Statistics Norway.
Table A10.

Norway: Balance of Payments

(Billions of U.S. dollars, unless otherwise indicated)

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Sources: Statistics Norway.
Table A11.

Norway: Net External Debt

(In billions of U.S. dollars, at end of period)

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Sources: Ministry of Finance, NasjonalBudsjettet; and Norges Bank, Economic Bulletin.
Table A12.

Norway: Labor Market Indicators

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Source: Statistics Norway, Monthly Bulletin of Statistics.
Table A13.

Norway: Wages and Prices

(Annual percentage changes)

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Source: Statistics Norway.
Table A14.

Norway: General Government Revenue and Expenditures

(In millions of Norwegian Kroner)

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Source: Ministry of Finance.
Table A15.

Norway: Interest Rates

(In percent)

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Source: IMF, International Financial Statistics.

End of period.

Period averages.

Table A16.

Norway: Exchange Rate Developments

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Source: IMF, International Financial Statistics.

Normalized unit labor costs in manufacturing adjusted for exchange rate changes.