Norway: 2018 Article IV Consultation—Press Release; Staff Report; and Statement by the Executive Director for Norway
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International Monetary Fund. European Dept.
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Publication Date:
17 Sep 2018
eISBN:
9781484377055
Language:
English
Keywords:
ISCR; CR; debt; government; output gap; exchange arrangement; unemployment rate; inflation targeting; current account; potential GDP; covered bond; collective bargaining system
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2018 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for Norway

Abstract

2018 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for Norway

Context: Managing Oil Wealth and Competitiveness

1. Norway has leveraged its oil wealth to become one of the most prosperous and equitable countries in the world. The discovery in the 1960s of oil and gas in the continental shelf transformed the country’s fortunes. Today, Norway has one of the world’s highest levels of GDP per capita, while enjoying high income, wealth, and gender equality. This would not have been possible without strong social consensus, including on how to manage the oil wealth (Annex III). Specifically, there was—and remains—broad agreement on three key points:

  • The oil1 rents should be widely shared. Most of the oil revenue flows back to the State, either directly through the State’s energy company or through high corporate tax rates on private oil companies. Private capture of the State has never been an issue.

  • Much of the oil rent should be saved for future generations by only spending the real return on the accumulated oil savings. Limiting inflows into the domestic economy (so called mainland Norway) while keeping most savings abroad has also helped contain Dutch Disease effects.

  • The wage bargaining system should ensure that terms of trade windfalls are shared fairly equally across all sectors of the economy (Annex I).

uA01fig01

Income Level and Income Distribution

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: World Bank World Development Indicators.

2. However, the contribution of oil to economic growth is peaking. Oil production in the last 15 years has outperformed expectations, notably because improvements in technology allowed more to be extracted from existing fields and rendered once marginal fields profitable. A large new field will come onstream around 2020, leading to a further projected peak in production in the mid-2020s. However, thereafter petroleum production, which currently constitutes about ⅛ of output, is set to decrease.2

uA01fig02

Petroleum Production

(Million of cubic meter of oil equivalent per year)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: Norwegian Petroleum Directorate Report “The Shelf in 2017”.

3. Sustaining high incomes as oil-related activity ebbs will require addressing three important challenges. These provided the focus for this year’s Article IV consultation.

  • Competitiveness (Annex I and Selected Issues Paper).3 During the past two decades, wages in Norway have grown faster than productivity and more rapidly than wages in peer countries. Terms of trade gains helped to cushion aggregate competitiveness to some extent. But competitiveness, especially for non-oil related tradable sectors, remains a concern. The External Balance Assessment suggests that Norway’s external position in 2017 is weaker than implied by medium-term fundamentals and desired policies (Annex V).

  • High non-oil fiscal deficits and aging. The fiscal rule ensured that most of the oil windfall since the mid-1990s was saved. Given high global asset prices, the sovereign wealth fund has grown large (at 303 percent of mainland GDP as of end-2017). Spending its projected 3 percent real return, as envisaged under the fiscal rule, now amounts to a non-oil fiscal deficit of close to 8 percent of mainland GDP. In contrast, non-oil deficits amounted to less than 2 percent of mainland GDP in the early 2000s. Staff analysis shows that, without adjustment in response to aging pressures, these deficits will gradually erode and eventually deplete the country’s large public savings.

  • Financial stability. More immediately, vulnerabilities remain in the financial system, with a sizable household debt burden and high real estate valuations.

External Balance Assessment (EBA) Methodologies1 – 2017

article image
Source: Fund staff calculations.

CA gaps: minus indicates overvaluation. REER gaps: minus indicates undervaluation. Estimates based on data available in April 2018.

Since the analysis was carried out, Statistics Norway revised the actual 2017 current account surplus from 5.1 to 5.5 percent of GDP. This would likely lower the current account gap.

Includes staff adjustment for Norway specific features not included in EBA framework.

4. The center-right coalition of Prime Minister Solberg, in power since 2013, was reelected in September 2017. The coalition has made it a priority for Norway to remain a dynamic economy outside of oil, but it now has minority status in parliament and this could limit the scope for difficult reforms.

Recent Developments

5. The economic upturn is gaining momentum (Figure 1). Following the 2015–16 downturn, there was a solid upward trend in the growth of mainland GDP (i.e. non-oil and gas output) throughout 2017 and early 2018. Annual growth reached 1.9 percent in 2017 and 2.6 percent in 2018:Q1, driven by stronger private consumption, business investment and exports, while housing investment growth slowed from its 2016 peak. Also, there has been less drag from reduced oil investment. The upturn was supported by improved competitiveness following the krone depreciation of 2013–15, as well as accommodative monetary and fiscal policies (a cumulative fiscal impulse of about 2.5 percent of mainland potential GDP since 2014).

Figure 1.
Figure 1.

Norway: GDP and Activity Indicators

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Norway: Selected Economic Indicators

(Y/Y percent change, unless noted)

article image
Sources: IMF World Economic Outlook, Statistics Norway, and Fund staff
uA01fig03

GDP Growth

(Y/Y percent change, SA)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Statistics Norway and Fund staff calculations.
uA01fig04

Oil Price and Oil Investment, Historical and Projection

(Y/Y growth rate, percent)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Norges Bank and Fund staff calculations.

6. The labor market is strengthening (Figure 2). The seasonally-adjusted Labor Force Survey unemployment rate has trended down from its mid-2016 peak of around 5 percent to 3.9 percent in March 2018.4 Job vacancies are also increasing rapidly. Wage growth remained moderate in 2017 at 2.3 percent, broadly unchanged from its 2015–16 average, but recent wage agreements suggest an acceleration to just below 3 percent this year.

Figure 2.
Figure 2.

Norway: Labor Market Developments

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

uA01fig05

Unemployment Rate

(Percent of labor force)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Labor and Welfare Administration, Statistics Norway, and Fund staff calculations.

7. Headline inflation is edging up, though core inflation remains subdued (Figure 3). Headline inflation has risen since November 2017 and is now slightly above the 2 percent revised inflation target (¶23), largely on account of higher energy prices and changes in indirect taxes.5 However, core inflation has continued to hover around 1¼ percent. Domestic producer inflation has also remained weak owing to moderate wage growth in the most recent years. Inflation expectations had been well anchored around the previous 2.5 percent inflation target; no survey has been conducted since the target was lowered.

Figure 3.
Figure 3.

Norway: Price Developments

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

uA01fig06

Annual Inflation

(Percent)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources; Statistics Norway and Fund staff calculations.

8. Norway’s external position has improved somewhat (Figure 4). Owing to the oil price plunge, the current account surplus fell sharply from 13 to 4½ percent of mainland GDP between 2014 and 2016. It recovered to 6½ percent of mainland GDP in 2017 on the back of higher oil prices. Non-oil exports have remained stagnant despite the large real depreciation, partly due to subdued demand in the oil service industry given low global oil investment.6

Figure 4.
Figure 4.

Norway: External Sector Developments

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

9. A temporary correction in house prices appears to have ended. After rapid house price inflation since early 2015, national house prices fell by about 5 percent in nominal terms in the second half of 2017. However, the correction is now over: in Oslo prices rebounded by 7.5 percent on a seasonally-adjusted basis during the first five months of 2018.

uA01fig07

Nominal House Prices in Norway

(Index: Jan 2013=100)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Real Estate Norway and Fund Staff calculations.

10. Traction of Fund advice remains good (Annex VIII and IX). Most Fund recommendations have been implemented from the 2017 and earlier Article IV consultations, and from the 2015 Financial System Stability Assessment (FSSA). Notably, since the last Article IV consultation, an important reform to public-sector pensions has been agreed, incapacity benefits have been further reformed, the mortgage regulations have been extended, and liquidity coverage ratios for banks’ exposures in foreign currencies have been introduced.

Outlook and Risks

11. The mainland economy is expected to grow above potential in the near-term. Following the strong rebound in 2017, the economy is gathering steam. Mainland growth is projected to increase to around 2½ percent this year and next, underpinned by solid consumption, stronger business investment and an export recovery. Petroleum investment will also start rising on the back of higher oil prices. As a result, staff expect the output gap to turn positive in 2019. Solid global demand should support the growth momentum, but the upswing would be moderated by the planned normalization of monetary policy. The unemployment rate is expected to diminish further.

12. Medium-term growth hinges on rebalancing to a less oil-dependent growth model. To support medium-term output growth, it is important to boost productivity growth in the non-oil sector and underpin labor participation to stem three adverse trends. First, labor productivity growth in Norway has been slow since the global financial crisis, as in other advanced economies.7 Second, after positive aging trends during the past two decades, the demographic profile is now deteriorating. Third, the projected contribution from oil to output growth is declining. On the upside, the tax system has become more growth-friendly, and the pension reform will enhance incentives for labor supply (see below). All in all, staff project potential mainland growth to be around 2 percent over the medium term, below the 2½ percent average of the last 20 years.

uA01fig08

Dependency Ratio

(Persons aged 0–14 and 75+ per person aged 15–74)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Statistics Norway and Fund Staff calculations.
uA01fig09

Underlying Drivers of Potential Growth

(In percent)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Eurostat and IMF staff calculations.

13. Risks to the outlook are broadly balanced (Annex VI). Domestically, the most prominent downside risks are related to household debt and housing. With over 90 percent of mortgages being variable rate, highly-leveraged households and consumption are vulnerable should financial conditions tighten abruptly. Relatedly, an abrupt decline of house prices could curb private consumption and create negative spillovers to banks’ balance sheets, especially if an economic downturn ensued. Growing trade protectionism could also dampen exports and growth in this highly open economy. On the upside, the economic upswing may prove stronger than expected, not least because oil prices could surpass projections.

Authorities’ Views

14. The authorities shared staff views on the macroeconomic outlook and risks. They also forecast mainland growth to pick up to about 2½ percent this year and next, and see the output gap closing in late 2018 or the first half of 2019. They view risks as broadly balanced with high household debt as the key vulnerability. Their assessment of medium-term potential growth is around 2 percent (mainland economy) weighed down by aging and labor productivity.

Policy Discussions

Given favorable economic conditions, expansionary fiscal and monetary policies should be gradually phased out. The upcycle would constitute a good opportunity for fiscal savings. In addition, policy priorities should focus on containing risks related to high household debt and safeguarding competitiveness in the non-oil sector.

A. Fiscal Policy

15. With the output gap closing, the fiscal stance has appropriately converged to neutral. Last year’s fiscal outturn implied a 0.2 percent fiscal impulse, with the structural non-oil deficit increasing to 7.5 percent of mainland trend GDP. The 2018 budget set a broadly neutral stance and focused on boosting long-term growth potential. The key measures aim at scaling back and shifting the tax burden from direct to indirect taxes,8 improving public sector efficiency, enhancing infrastructure, and promoting innovation. More recently, the supplementary 2018 budget approved by parliament commendably saves some 1¼ percent of GDP in additional oil revenues relative to the original budget, so as to preserve the neutral stance. The projected deficit under the supplementary budget represents 2.7 percent of the GPFG’s value, slightly below the long-term fiscal guideline of 3 percent (Annex III).

16. Next year would be the right time to start withdrawing some of the stimulus provided during the downturn. With staff projecting the output gap to turn slightly positive in 2019, a structural consolidation of ¼–½ percent of mainland GDP would seem appropriate. In terms of composition, a continued broadening of the VAT base and a reduction of tax incentives for home ownership and leverage would be welcome. Beyond realizing efficiency gains, this could also create space for enhancing R&D tax incentives and for reducing labor tax wedges.

17. More generally, the current fiscal rule may be too loose from a competitiveness perspective. Favorable financial market developments have caused the balance of the sovereign wealth fund to persistently outpace projections for the last 15 years.9 With the fiscal rule tied to the fund’s value, this has meant a steady increase in non-oil fiscal deficits, including during periods of positive output gaps, to a current 8 percent of mainland GDP. The steady expansion of government consumption has most likely added pressure on the real exchange rate, above and beyond the appreciation stemming from terms of trade gains over the past 20 years. Over the same period, public sector wages have failed to act as a counterweight to the rapid expansion in private sector wages; on the contrary, they also grew rapidly.

uA01fig10

Norway: Secular Fiscal Trends

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

18. In addition, high non-oil deficits would—in the absence of adjustment—eventually erode even Norway’s large savings (Selected Issues Paper).10 Staff analysis of an intertemporal public sector balance sheet for Norway shows that the public sector has a static net worth of 340 percent of mainland GDP, undoubtedly one of the strongest such positions in the world.11 But the current high non-oil deficits, gradually declining oil revenues, and increasing aging pressures will weigh on public finances—health care and pension expenditures are expected to grow by about 1 percent of mainland GDP every decade. In the absence of adjustment to contain the resulting increase in deficits, Norway’s intertemporal financial net worth (IFNW)—its current assets minus both its current liabilities and the net present value of its future deficits—would be minus 240 percent of mainland GDP. The comparison with a peer like Finland is stark: Finland has much weaker static net savings, but its significantly lower starting deficits result in a stronger intertemporal position. For Norway, ensuring intertemporal solvency would require a permanent, cumulative fiscal adjustment of about 4–5 percent of mainland GDP in the future. While Norway can afford to extend the adjustment over a long period to minimize its impact, delaying its start would only add to the final cost by running larger deficits for a longer period.

uA01fig11

Structural Deficit and Pensions Expenditures

(Percent of mainland GDP)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: Ministry of Finance.
uA01fig12

Static Net Worth, 2017

(Percent of mainland GDP for Norway; Percent of GDP for Finland)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Norwegian Authorities, IMF Staff calculations and estimations, Brede and Henn (2018).

19. Given the above considerations, the government should use the flexibility embedded in the fiscal rule to stay below the 3 percent line for the foreseeable future. The ongoing up-cycle provides an ideal setting to get started on structural consolidation. Allowing the deficit to drift upward towards the “allowed” 3 percent line would stimulate the economy when it is not needed and increase the long-term adjustment need. It would also minimize space to respond to negative asset price shocks that could affect the value of the sovereign wealth fund and further increase pressure on the real exchange rate and hence competitiveness. The fact that the structural non-oil deficit is still below the long-term guideline of 3 percent of the sovereign wealth fund despite several years of expansionary fiscal policy gives Norway a good starting point to address the challenges going forward.

20. Recent agreement on public sector occupational pension reform is important, including for long-term fiscal sustainability (Annex IV). The reform, agreed between the government and unions in the first half of 2018, aligns the public with the private occupational pension scheme. The reform, once put into law, will be phased in by 2020 and is expected to foster labor mobility between the private and public sectors, but also support labor participation among older public sector employees—an effect already observed among private employees, whose occupational pensions were reformed in 2011.

21. There appears to be potential, in various public spending areas, for the authorities to extract more value for money (Figure 5). The authorities are in the initial stages of designing systematic public expenditure reviews. The first spending reviews have been undertaken during the last two years, but these have been modest in scale. Going forward it will be important to widen their scope and to forge political agreement to realize and bank the identified savings, instead of reallocating spending to more efficient initiatives.

Figure 5.
Figure 5.

Norway: Primary Expenditure Composition and Aging

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

1/ Normalized by total rather than mainland GDP for the purpose of cross-country comparison. If expressed as a percentage of mainland GDP, Norway’s primary expenditure would be 7½ percentage points higher than Nordic peers’.

Authorities’ Views

22. The authorities agreed on the amount of fiscal savings required in the long term, but pointed to difficulties in budget consolidation at this point in the cycle. They agree that the economy is no longer in need of fiscal stimulus, and have therefore adjusted fiscal policy towards a neutral stance in the latest budgets. Further consolidation will be made in light of developments in the output gap. They acknowledge and exploit the embedded flexibility in the fiscal rule to stay below the 3 percent benchmark, not least to provide a buffer against potential asset price fluctuations given the size of the GPFG. Regarding long-term trends, they have made efforts to educate the public that return on Norway’s large savings will not continue expanding forever, and that sticking to the 3 percent rule will require consolidation in the future. They expect to minimize the needed consolidation and improve growth by expanding labor participation (on which they see room for improvement despite Norway still ranking very favorably by international standards), and by improving value for money in the public sector through more systematic public expenditure reviews.

B. Monetary and Financial Sector Policies

23. A new monetary policy framework was adopted by the government in March. It formalizes Norges Bank’s established practice of flexible inflation targeting whereby, in addition to achieving the inflation target, monetary policy should also contribute to high and stable employment and output and counteract the buildup of financial imbalances. In addition, the inflation target was lowered from 2.5 to 2 percent.12 In the view of staff the changes are expected to have a marginal impact on monetary policy conduct; in practice, inflation has oscillated around 2 percent since the early 2000s. Work remains ongoing on a new Central Bank Act. It could move management of the GPFG from a unit inside Norges Bank to a separate entity, but it would remain sheltered from political influence under all proposals under consideration.13

24. The inflation outlook warrants a gradual phasing in of tighter monetary policy. Norges Bank’s forward guidance projects a hike in the policy rate from its current level of 0.5 percent by late this year, and further increases to 2¼ by end 2021. The tightening stance is appropriate: with economic slack diminishing and the recent wage negotiations pointing to an acceleration in income growth, core inflation should gradually rise towards headline inflation, which already stands at the newly revised 2 percent target. Should any risks materialize and bring the baseline forecast into question, Norway’s inflation targeting framework provides the needed flexibility to adjust guidance.

uA01fig13

Key Monetary Policy Rate

(Percent)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: Norges Bank.

25. Banks’ balance sheets are strong (Figure 7). Profits have been solid compared with institutions in peer countries, loan losses are low, and banks comfortably meet higher capital requirements in effect from 2018: their average CET1 capital ratio is high (16.8 percent of risk- weighted assets at end-2017).14 In addition, strong Pillar II requirements are levied especially on banks with concentrated exposures in commercial real estate and consumer lending (¶28). Banks’ average leverage ratio stood at 8 percent at end-2017, with all institutions exceeding the 5 percent requirement. Finally, liquid reserves exceed the liquidity coverage ratio (LCR) and prospective net stable funding ratio (NSFR) requirements by ample margins. The forthcoming headquarters move of Nordea from Sweden to Finland this October is not expected to affect Nordea’s Norwegian operations.

Figure 6.
Figure 6.

Norway: Credit Developments

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Figure 7.
Figure 7.

Norway: Banking Sector Developments

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

26. However, vulnerabilities remain in the financial system:

  • Overvalued housing prices and highly-indebted households (Figures 8 and 9). Despite the 2017 correction, staff analysis shows that house prices are still overvalued, particularly in the Oslo region (Annex II and Selected Issues Paper).15 Household debt, at 224 percent of disposable income, remains among the highest in OECD countries and is still gradually rising. Despite low interest rates, the debt service-to-income ratio is close to its pre-crisis peak of the late 1980s. With most debt being in the form of variable-rate mortgages, households are exposed to an abrupt tightening in financing conditions (Figure 10).16 Beyond the macroeconomic risks, implications for bank solvency are relatively limited. Bank stress tests by the FSAP mission in 2015, by the Norges Bank, and by the FSA suggest that banks’ high capital buffers render them well positioned to withstand even severe shocks.

  • Commercial real estate (CRE) valuations. In level terms, CRE prices are in the upper end of peer countries/cities but do not yet stand out. Nevertheless, they continue to increase rapidly, rising by about 10 percent annually in real terms (Figure 11). CRE exposures now amount to 15 percent of total bank assets, with branches of foreign banks more exposed (Figure 12). However, a sizable part of these relate to property management companies, which would be only gradually affected by shocks given an average initial lease duration of seven years. While construction and property development companies would be more exposed to declines in CRE prices, risks are somewhat mitigated by more than half of any property generally being leased before construction commences.

  • Banks’ reliance on external wholesale funding is a long-standing vulnerability. About half of banks’ funding still comes from the market, and more than half thereof from foreign sources. While reliance on wholesale funding has slightly decreased in recent years and maturities have lengthened, covered bond issuance has increased. A housing crisis could thereby hamper banks’ access to wholesale financing, if deterioration of collateral quality hinders further covered bond issuance. Also, large cross-holdings of covered bonds within the domestic banking system pose contagion risks.

Figure 8.
Figure 8.

Norway: Housing Developments

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Figure 9.
Figure 9.

Norway: Household Debt and the 2017 Mortgage Regulations

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Figure 10.
Figure 10.

Norway: Household Vulnerabilities to Interest Rates and House Prices

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

1/ These results, from Fagereng and Halvorsen 2016, use tax return data and cannot be mapped one-to-one to private consumption in the national accounts.
Figure 11.
Figure 11.

Norway: Commercial Real Estate Developments

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: MSCI IPD database.Denmark data for the segments retail, industrial and other refer to 2016.
Figure 12.
Figure 12.

Norway: Corporate Sector Developments

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

uA01fig14

Estimated House Price Overvaluation by Region, 2017

(In percent; range implied by staff analysis1)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: Górnicka and Zhang (2018)1/ Staff attribute greater weight to the lower end of each range for reasons detailed in Górnicka and Zhang (2018).
uA01fig15

Household Debt and Debt Service

(Percent, 1983 Q1 – 2017 Q4)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Statistics Norway and Norges Bank.
uA01fig16

Interest Burden Under Shock Scenarios

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Statistics Norway and Finanstilsynet.

27. The authorities have actively deployed prudential policies to contain financial vulnerabilities. In June, the Ministry of Finance extended until end-2019 the mortgage regulations that were due to expire in mid-2018.17 This was appropriate, as these regulations have clearly reduced the incidence of risky mortgages. Actions on unsecured consumer lending (Figure 6)—where default risks may be most immediate in a downturn—include tighter capital and consumer protection requirements and introduction of risk-based contributions to the deposit insurance and bank resolution funds (starting 2019).18 The authorities have responded to the risks related to CRE with intensified oversight and Pillar II capital add-ons for banks with concentrated exposures. New rules requiring provisioning for prospective loan losses are being phased in, in line with international standards. Legislation corresponding to the EU’s BRRD has been adopted and will become effective in January 2019.19 Finally, the licensing process to establish credit registries is underway and there has also been continued progress on implementing FSAP recommendations.

uA01fig17

Share of New Mortgage Loans with Risky Loan Terms

(Percent)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: The Norwegian FSA.

28. The authorities should stand ready to tighten prudential policies further if risks intensify. This includes the parameters underpinning the mortgage regulations, but also Pillar II add-ons for CRE. More generally, the mortgage regulations should be made a permanent part of the prudential toolkit—parameters would then be adjusted up or down as the financial cycle requires. In addition, although measures like the 500 percent DTI limit are much more binding in Oslo than elsewhere in Norway, expanding the regional differentiation of measures should be considered if house price overvaluation diverges further across regions. To more durably address housing risks, action is also needed to reduce still-generous tax preferences for housing,20 and to further relax constraints on new property construction to underpin the supply of housing (¶34).

Authorities’ Views

29. The authorities agreed with staff on financial stability risks, but cautioned against overreach with prudential regulations. They agreed that economic developments call for a gradual unwinding of monetary policy stimulus and that this also could help calm concerns about financial imbalances in the household sector. They also agreed that the mortgage regulations had been effective, resulting in tighter lending practices and lower issuance of high-risk mortgages. At the same time, their usefulness and design should be reassessed regularly in the context of household credit and housing market developments. The authorities also emphasized that these regulations should be used as warranted by financial stability considerations, and be balanced against banks’ room for exercising their core competence of assessing credit risks. In this context, further regional differentiation of measures should be assessed against risks of micromanaging the market. There was agreement that banks’ shock absorption capacity was high, given their solid capital and liquidity positions. There are presently no plans to further reduce the tax deductibility of mortgage interest. Nevertheless, the authorities noted that its effective value has shrunk with the lowering of the ordinary income tax rate over the past years. The authorities moreover pointed out that changes in the net wealth tax in 2014–18 and the recent increase in the number of municipalities collecting property taxes have also contributed to lowering the tax bias in favor of housing investment.

C. Structural Policies

30. The wage growth seen in the last 15 years might not be sustainable going forward without compromising Norway’s competitiveness (Annex I and Selected Issues Paper).21 Over the last two decades, Norway experienced wage growth that exceeded productivity growth in most sectors, as well as wage growth in trading partners. This transpired without a disproportionate loss of competitiveness thanks to terms of trade gains, which were shared broadly across society via the wage bargaining system. Even then, some tradeable sectors that did not benefit from positive terms of trade shocks have struggled to adjust, as seen by these sectors’ declining shares of value added. These tradable sectors will gain in importance as the role of oil diminishes. Moreover, high prevailing wages are leading to the emergence of a dual labor market in non-tradeable sectors, with an increasing share of workers not covered by collective agreements. The impact of such developments on the high level of trust underpinning Norway’s collective bargaining system remains to be seen.

uA01fig18

Wage Growth

(y/y, percent)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Statistics Norway and IMF staff calculations.
uA01fig19

Employment Growth between 2008–2014

(Cumulative; In percent of total employment in 2008)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: The Norwegian Confederation of Trade Unions.1/ Due to data constraints, unionized and non-unionized workers had to be proxied by the native and immigrant labor force, respectively.

31. Going forward, society may need to downwardly adjust its expectations of future wage increases. Gains comparable to those in the past would not be sustainable unless Norway is again fortunate on its terms of trade. Even then, wage moderation as achieved by social partners during the recent downturn should be carried forward, as it would help build resilience in case of less positive trends in international prices and facilitate the gradual transition out of oil. The government, nominally a follower in the wage bargaining system, will have a key role to play in moderating society’s expectations.

32. Ongoing reforms to boost productivity should continue. Productivity growth has fallen considerably since the mid-2000s, especially among the non-oil sectors less exposed to international trade and competition. The authorities are working to implement reform proposals highlighted in the Productivity Commission report to promote innovation, improve labor skills, and expand product market reforms.22 Some reforms are already underway, mainly in the areas of improving the effectiveness of tax incentives for R&D and innovation and boosting the quality of vocational and higher education. The latter measures are important to better integrate the young, immigrants and refugees into the labor market. The authorities should continue to prioritize and implement the proposed reforms to generate further productivity gains.

uA01fig20

Gross Value Added Per Hour Worked in Selected Sectors

(Cumulative Change Since 2005)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Statistics Norway, IMF staff calculations.

33. More can be done to sustain high labor participation amid growing demographic pressures and technological change. While Norway’s labor participation rate remains among the highest in the OECD, participation has been falling since 2008, especially among prime-age cohorts and men, and challenges remain to integrate some under-represented groups into the labor force. More specifically:

  • Sickness and disability. Effective in January 2018, the maximum duration of extended sickness leave (“Work Assessment Allowance”) has been shortened and requirements for its extension tightened. But sickness and disability schemes require further and substantial reforms. While disabled individuals in Norway are more likely to be employed than those in other countries, the country has one of the highest disability rates among its peers (Figure 2). Tightening the benefits eligibility criteria and increasing the grading scale of disability,23 while creating more incentives to work for the disabled, could help bring more people back into labor market Similarly, reforming sick leave benefits to incentivize employers to bring employees back to work earlier—for example through more equal sharing of long-term sick leave costs with the state—should be considered. Upcoming opportunities to forge consensus on such reforms should be used.24

  • Female participation. Notwithstanding the substantial achievements so far in integrating women into the labor force, more could be done to expand working hours among women, for example by making child care even more flexible.25

  • Labor market flexibility. Higher flexibility in temporary work contracts and wages might be needed to prevent some people from being permanently excluded from the labor market, though tradeoffs that such flexibility could pose to Norway’s social model will need to be considered.

uA01fig21

Labor Force Participation Rates by Gender

(Percent of 15–74 year-old population)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: Statistics Norway.

34. Regional housing policies could better benefit internal labor mobility. Job-to-job flows in Norway are high by international standards, suggesting a dynamic labor market. However, there is some evidence of growing net outflows of prime-age cohorts from big cities, where housing affordability has deteriorated in recent years. Studies in other countries suggest that rising house prices represent a barrier to interregional migration of low-skilled workers, and to regional income and productivity convergence.26 Norway’s construction and urban planning regulations are perceived as quite strict, especially in the Oslo area. The authorities have taken several efficiency measures aimed at lowering construction costs and time,27 and the supply of new housing in Oslo is now increasing considerably after lagging population growth for several years. However, more active use of region-specific housing policies, including relaxing local regulations where they are excessively stringent, and further lowering preferential tax treatment of housing should be also considered.

35. Reducing the level of agricultural protection would enable more efficient resource allocation. Agricultural reforms have progressed, for example, with the parliamentary vote to phase out export subsidies for agricultural products by 2020, and to free up price setting. However, action is needed to reduce high agricultural domestic subsidies and tariffs. Beyond increasing efficiency, this would benefit low-income groups through lower food prices.

uA01fig22

Agricultural Protection

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: OECD and WTO World Trade Profiles 2017.1/ Comprises market price support, budgetary payments and the cost of revenue foregone. Indexed from 0 to 1 with lower numbers denoting higher support.

Stakeholders’ Views

36. The authorities agreed that competitiveness should be reinforced further, building on recent achievements. However, they emphasized that the consequences of wage growth in excess of productivity growth or of wage growth in trading partners should not be overstated, given Norway’s terms of trade gains leading up to 2014. In addition, they noted that the declining shares of some non-tradeable sectors could simply reflect an optimal reallocation of resources towards more productive areas. The authorities also pointed at the important role the floating exchange rate had played in adjusting relative prices and improving competitiveness after the oil price drop in 2014. Nevertheless, they agreed that the country’s high cost levels leave it vulnerable to a reversal in the terms of trade, and that wage moderation might thus be necessary going forward. In this context, they were encouraged by developments in 2014–17, during which social partners showed they could deliver wage discipline when needed, following a re-commitment in 2013 among the social partners to let wage growth primarily be determined by non-oil manufacturing. The authorities view high employment rates and productivity as essential for underpinning Norway’s social model. As a result, they plan to continue to implement the proposals of the Productivity Commission—with a view to enhancing work incentives. Regarding housing supply, the authorities noted that various efficiency measures introduced since 2015 to ease housing construction had seemingly borne fruit in reducing growth in construction costs.

37. Labor unions emphasized the threats posed by the dual labor market to Norway’s social model. Union representatives agreed that maintaining competitiveness was important. Nevertheless, they expressed concern about the increasingly dual nature of the labor market: rising shares of workers are not covered by collective agreements and receive considerably lower wages. This is especially the case in sectors such as services, industry, and construction that are exposed internationally through labor migration. Unions called for an increased focus on vocational training and lifelong learning, to avoid workers becoming permanently excluded from the labor market.

38. The Confederation of Norwegian Enterprises agreed on the need for wage moderation going forward. While rapid income growth in the past 20 years was made possible by strong terms of trade gains, such gains are unlikely to be repeated. This being said, employers were confident that social partners will be able to deliver restraint when needed, as was the case during 2014–17 when wage growth was kept in line with that of trading partners in response to a downturn. Changes to the wage formation process introduced in 2014, which among other things give greater prominence to wage developments abroad, are a positive development.

Staff Appraisal

39. The ongoing healthy recovery from the oil downturn is expected to continue. The mainland economy is expected to grow by 2½ percent this year and next, while core inflation would converge to 2 percent. Recent positive trends in oil prices and a strengthening labor market should help support momentum in both exports and domestic demand and could cause growth to exceed expectations. On the downside, high and rising debt—much of which is in the form of variable-rate mortgages—leaves households exposed to an abrupt tightening in financing conditions. These vulnerabilities could increase if this year’s housing price rebound continues unabated, with house prices already overvalued in some regions. Rising global trade tensions are another concern for a small, highly open economy like Norway.

40. But despite the generally positive short-term picture, Norway also faces important challenges to sustaining its prosperity. With the contribution from the oil sector projected to wane, Norway will have to gradually transition to new growth sectors. In addition, non-oil fiscal deficits have risen steadily to high levels over the last 15 years, even though Norway has yet to feel the adverse impacts of aging on entitlement spending and potential growth.

41. Competitiveness should be underpinned further, including to facilitate rebalancing to a less oil and gas dependent growth model. Staff assesses the external position as weaker than implied by medium-term fundamentals and desired policies. Over the last two decades, Norway experienced wage increases that exceeded productivity growth in most sectors, and outpaced wage rises in trading partners as well. What made this possible without a large loss of competitiveness was that Norway benefitted from favorable terms of trade, not only in energy but in fisheries and metals as well. Tradable sectors not benefiting from higher sales prices have suffered, however, and certain non-tradable sectors have shifted hiring away from unionized workers. Going forward, rapid wage growth as in the past will only be possible if Norway is again fortunate on its terms of trade. Even then, the wage moderation achieved by social partners during the recent downturn should be carried forward: it will facilitate the needed transition away from oil and build resilience in case of adverse developments in international prices. Moreover, the authorities should continue reforms to support innovation and productivity growth. Finally, sustaining high labor participation is crucial to support Norway’s social model, whereby the agreement on public sector occupational pension reform constitutes an important advance by lengthening working lives and fostering labor mobility. However, continued progress will be needed to enhance work incentives, including through more substantial reform of sickness and disability benefit schemes, and better integration of vulnerable groups into the labor market.

42. Fiscal policy should gradually reverse the trend increase in non-oil fiscal deficits seen over the last 15 years. This would help alleviate pressures on the real exchange rate and provide a head start on aging-related consolidation needs over the long term that are well recognized by the authorities. This year’s budget appropriately targets a neutral stance, which is commendably being maintained in the face of windfall gains. Going forward, the authorities should continue to use the flexibility inherent in the fiscal rule to keep non-oil deficits below the rule’s long-run benchmark level of 3 percent of sovereign wealth fund assets. This would also generate space to respond to negative asset price shocks that could affect the value of the sovereign wealth fund. Specifically, next year’s budget should target a modest structural consolidation of ¼–½ percent of mainland GDP, given that output is likely to exceed potential in 2019. To address longer-term fiscal sustainability, a permanent 4–5 percent of GDP consolidation will be needed, though Norway has the luxury to extend the adjustment over a long period to minimize its impact. In this context, the authorities’ efforts to realize more efficiency in public services provision are well taken; they should be scaled up in the future and resulting gains should be largely saved to pre-finance age-related spending needs.

43. Significant action has been taken to mitigate financial stability risks, but continued vigilance is needed. Banks are resilient and comfortably meet Norway’s admirably stringent capital, leverage, and liquidity requirements. The recent extension of the mortgage regulations, which have proven effective at limiting issuance of high-risk mortgages, is welcome. The envisaged gradual normalization of monetary policy is appropriate at this stage in the cycle. Given that real and financial cycles have become more aligned, the monetary policy tightening called forth by the projected path of inflation can now reinforce the effectiveness of macroprudential and structural policies in mitigating financial stability concerns. Going forward, the mortgage regulations should be made a permanent part of the prudential toolkit: its parameters could still be adjusted as needed. If house price valuations and hence financial stability concerns continue to diverge across regions in Norway, more regionally differentiated mortgage regulations could be considered. To more durably address housing risks, action is also needed to further address supply constraints and reduce tax incentives for home ownership, which—despite reductions—remain generous by international standards.

44. It is proposed the next Article IV consultation with Norway be held on the standard 12-month cycle.

Table 1.

Norway: Selected Economic and Social Indicators, 2013–2019

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Sources: Ministry of Finance, Norges Bank, Statistics Norway, International Financial Statistics, United Nations Development Programme, and Fund staff calculations.

Based on market prices which include “taxes on products, including VAT, less subsidies on products”.

Projections based on authorities’s 2018 budget.

Projections based on authorities’s 2018 budget removes both petroluem revenues and expenditures.

Authorities’ key fiscal policy variable; excludes oil-related revenue and expenditure, GPFG income, as well as cyclical effects.

Over-the-cycle deficit target: 3 percent of Pension Fund Global Capital

Table 2.

Norway: Medium-Term Indicators, 2013–2023

(Annual percent change, unless otherwise indicated)

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Source: Statistics Norway, Ministry of Finance, and IMF staff estimates.
Table 3.

Norway: External Indicators, 2013–2023

(Percent of GDP)

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Sources: Statistics Norway; Ministry of Finance; and IMF staff calculations.
Table 4.

Norway: General Government Accounts, 2007–2016

(Percent of mainland GDP)

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Sources: IMF Government Finance Statistics, Ministry of Finance, and Fund staff calculations.

Includes statistical discrepancy.

Annex I. Norway’s Competitiveness Challenges

1. Over the last two decades, wages in Norway have outpaced both productivity growth and wages in trade partners. Since 1995, nominal manufacturing wages in Norway rose by 160 percent, compared to less than 100 percent in other Nordics and less than 80 percent in Germany. At the same time, labor productivity in manufacturing productivity lagged that of peers during the same period: Norway’s only grew by 50 percent while that of other Nordic peers more than doubled. Similar trends are observable for services, though the magnitudes of differences are less stark (see Selected Issues Paper for more details).1 This led to a large increase in aggregate unit labor costs. The deterioration in unit labor costs was particularly pronounced during 2005–13, when global commodity prices spiked.

uA01fig23

Manufacturing: Labor Compensation and Productivity

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: OECD; and IMF Staff estimates.
uA01fig24

Services1: Labor Compensation and Productivity

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

1/ Excluding real estate activities.Sources: OECD; and IMF Staff estimates.

2. High terms of trade gains limited aggregate competitiveness losses. Export prices rose considerably for most of Norway’s key exports—oil, aluminum, and fisheries. In addition, these terms of gains also spilled to related sectors. For instance, higher worldwide oil-related investment activity also resulted in terms of trade gains for Norway’s oil-related industries, which have grown over the past decades to make up 1/3 of mainland exports. While referred to as the oil service industry, it includes both manufacturers of goods as well as service suppliers to oil producers worldwide. Manufactured goods include specialized machinery and vessels, and services are geared towards engineering.

uA01fig25

Price of Key Norwegian Exports

(Index 2000=100)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: IMF, WEO.
uA01fig26

Composition of Mainland Norway’s Exports, 2017

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: Statistics Norway.

3. Another way to see that wage gains may not have been unsustainable in the aggregate is to note that wages have remained constant as a share of GDP. At a time when several other advanced countries experienced falling labor shares, Norway’s remained constant. It likely played a role that maintaining a stable share of labor compensation in domestic income is an important objective of collective wage bargaining in Norway. Collective agreements cover much of the economy: Seventy percent of employees are covered by collective agreements in Norway. This is high in global comparison, though low compared to Nordic peers. Collective wage agreements in Norway are negotiated through a decentralized, two-tiered system. In this framework, wages are negotiated at the sector level first, while leaving considerable room for supplemental agreements within companies under a peace clause. In Norway, the sector-level bargaining of wage growth rates takes place each year, while other benefits are negotiated every two years.

uA01fig27

Labor Compensation Share

(Percent of gross value added)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Eurotat; country authorities; and IMF staff estimates.

4. In Norway’s collective bargaining model, the machinery sector—which experienced considerable terms of trade gains—traditionally led wage negotiations. Much of the machinery sector in Norway serves as a supplier to oil-extraction companies worldwide. Therefore it was also favored by positive oil price shocks; such shocks increase demand for the sector’s products and these are sufficiently specialized to give firms pricing power. Norway’s sector-level bargaining negotiations follow the so-called “pattern bargaining” process: The machinery sector, which is deemed the most exposed to international competition, agrees on a wage target. This target is then applicable to the other sectors as well. The blue-collar workers in the machinery sector traditionally (i.e. up to 2014) negotiated their wages first, setting a starting point for the wage agreement for all workers in the manufacturing sector. The wage norm agreed in manufacturing, in turn, serves as a target for the average wage rises in the rest of the economy, including the public sector.

5. High wage increases were also passed onto sectors that had not experienced terms of trade gains. While there are no laws preventing different sectors from deviating from the norm established by the manufacturing sector, social partners have historically complied with the central agreements. Given this close adherence of follower sectors, the manufacturing sector’s high wage increases—of above 4 percent during 2001–13—permeated throughout the economy. Arguably, social partners’ traditional objective to contain wage dispersion in the economy also played a role.

uA01fig28

Nominal Wage Growth by Sector, 2001–2013

(Yoy, in percent)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Eurostat, IMF Staff Calculations

6. As a result, competitiveness is a challenge in several sectors. In particular, non-oil related manufactures have struggled, with their share in mainland GDP declining by about 5 percentage points since the late 1990s. True, this trend can be interpreted benignly, as an optimal reallocation of resources to the sectors benefiting from terms of trade gains. However, this reallocation will likely make diversification away from oil, which is ultimately needed over the longer term, more difficult. Also, manufactured exports as a whole have not responded to the 20 percent real exchange rate depreciation of the 2014–16 oil downturn, though this may partly be related to weak global demand for oil-related manufactures until most recently. Finally, also in services, unit labor costs have increased considerably more than in trade partners. As a result, many services and other nontradables sectors (such as construction) have experienced considerable labor inward migration. Migrants often accept lower wages and tend not to be covered by collective agreements, unlike most native workers. Therefore, union coverage in certain sectors has been decreasing quite rapidly (Staff Report ¶30). The consequences of the rise of non-unionized employment on Norway’s tight social compact remain to be seen.

uA01fig29

Manufacturing: Nonoil Related Exports

(Percent of mainland GDP)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Statistics Norway; and IMF staff estimates.
uA01fig30

REER and Manufactured Exports

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Haver Analytics, and IMF staff estimates.

7. Going forward, Norway may have to shift its expectations for wage growth downward. The only reason Norway was able to afford very high wage growth in the past (notwithstanding the noted challenges in several sectors) was because of good fortunes in its terms of trade. Going forward, it would be prudent not to count on being fortunate twice: wage moderation would help build resilience in case of less favorable trends in international prices. It would also help facilitate the needed transition out of oil.

8. Developments since 2014 assuage concerns regarding competitiveness to some extent. Social partners have been able to deliver wage moderation since the onset of the oil downturn. Wage growth in the manufacturing sector was less than 2 percent on average during 2014–17, with other sectors reducing their average wage growth from above 4 to 2.3 percent during the same period. This helped prevent further deterioration of cost competitiveness, although losses from the past decade have not been reversed. In addition, there have been encouraging changes in the wage bargaining process since 2014, with social partners heeding wage developments in trade partners more closely and the broader manufacturing sector—instead of machinery—now leading wage negotiations.

Annex II. Regional House Price Overvaluation in Norway

1. House prices have been growing fast in recent years, notwithstanding a recent correction that has now ended. Nominal house prices in Oslo and nationwide now stand 85 and 55 percent, respectively, above their 2010 levels. The national house price to income ratio remains historically and internationally high (Figure 9). House prices fell in 2017 particularly in Oslo, which saw nominal house price declines of 10.5 percent during 2017.1 However, the correction was short lived. House prices have risen again by 7.5 percent during January–May of this year on a seasonally-adjusted basis.

2. There has been a significant regional divergence of house price trends since 2013. This represents a contrast to the period of rapid house price appreciation before the global financial crisis, when house prices grew evenly across Norway. However, since 2013, prices have declined in the oil regions (in good part due to the oil downturn), they have grown modestly in the non-oil, non-Oslo regions, but they have increased very rapidly in Oslo. There is evidence that during the latest run-up, fundamental factors have played a part for this divergent trend—for instance, while the supply of houses has kept up with population growth outside of Oslo, it has trailed well behind in the capital.

uA01fig31

Norway: Real House Price Growth by Region

(Y/Y change, in percent)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Haver Analytics, IMF staff calculations
uA01fig32

Population and Residential Building Stocks in Regions

(2000=100)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Sources: Statistics Norway, IMF staff calculations.

3. The recent correction happened not long after new mortgage regulations entered into force in January 2017. In addition to previous regulations that included among other things tight loan-to-value ratios, the new measures added: (i) a debt-to-income (DTI) limit of 5; (ii) tightened conditions for applying an amortization requirement; and (iii) a lower limit for the maximum percentage of new mortgage lending in Oslo that was allowed to deviate from one or more of the regulatory requirements (the so-called “speed limit”). There is evidence that the regulations, especially the DTI limit, have been binding. This is particularly true in Oslo, where many mortgages are hitting the DTI limit.

uA01fig33

Loan-to-Value Ratio and Debt-to-Income on Repayment Mortgages in Norway

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: Finanstilsynet 2017 residential mortgage survey

4. Given diverging trends across regions, it is worth asking whether house prices are above their equilibrium levels not just at the national but also at the regional level. Previous Fund consultations had shown a possible overvaluation of about 15 percent at the national level. Taking the analysis one step further and looking at regional prices in relation to the regional equilibrium, we find that Oslo prices are some 10–20 percent overvalued, non-oil, non-Oslo prices about 0–10 percent overvalued, and prices in oil regions in equilibrium or even slightly undervalued.2 This would indicate that the potential for a price correction is greater in the Oslo region. It also signals that Oslo is where financial stability concerns might be greatest, and hence where the focus of macroprudential policies should be.

Figure II.1
Figure II.1

Estimated Regional House Price Overvaluation

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

5. In addition, the rising dispersion of house prices is starting to impact internal labor mobility. Region-to-region flows are relatively small contributors to net population changes, which are dominated by net births and external immigration. Nevertheless, they have played an important equilibrating role in labor market dynamics when shocks have been asymmetric across regions. Staff estimates show that the rising dispersion of house prices is starting to limit internal labor mobility, in line with evidence from other advanced economies. This being said, the effects are modest for now: a 25 percent increase in house prices in a given region relative to the national average is estimated to reduce internal net flows to this region by about 10 percent.

Annex III. Norway’s Institutions to Manage Oil Revenues

1. In 1990, Norway set up a sovereign wealth fund—named Government Pension Fund Global (GPFG)—to administer oil revenues. All oil revenues have been transferred to the GPFG since 1996. The GPFG undertakes its investments overseas and therefore limits Dutch Disease concerns. In addition, Norway introduced a fiscal rule in 2001, which helps smooth any fluctuations in fiscal policy that could be induced by oil revenues. It determines that—on average over the cycle—only the expected real return of the GPFG can be spent and additional flexibility can be used if it helps safeguard exposed sectors from symptoms of Dutch Disease. The expected real return was set at 4 percent until 2017, when it was revised to 3 percent. Only spending the expected return of the GPFG has phased in oil revenues gradually into the Norwegian economy and ensures that much of the benefits of oil revenues are preserved for future generations. However, with the GPFG’s assets currently amounting to about 300 percent of mainland GDP, the rule now allows for an average fiscal non-oil deficit of 8 percent of mainland GDP.

uA01fig34

Norway: Fiscal Institutions

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: Norges Bank.

Annex IV. Pension Reforms in Norway

1. Norway’s pension system is composed of three pillars: (i) a basic pension provided by the National Insurance System; (ii) the occupational pension schemes that provide supplementary pensions (there are separate occupational pension schemes for private workers and for public employees); and (iii) additional and voluntary private pensions savings.

2. The 2011 reform of the National Insurance System and the private occupational pension scheme fostered incentives for lengthening working lives. As life expectancy increases, higher savings are needed. The reform encouraged workers to stay longer at work before retiring to compensate for longer life expectancy. Before the reform, the retirement age was 67 years. The reform introduced the flexibility to retire at any point between age 62 and 75, and replacement rates are adjusted up or down in an actuarily fair manner for earlier or later retirement. Thereby, the scheme incentivizes pensioners to take up work (again) after they begin receiving pensions; therefore, it will be important to safeguard the actuarially-fair nature of the system. The reform also links the pensions to earnings in each year worked and adjusts pensions by life expectancy.

3. In 2018, the authorities and unions agreed to reform the public sector occupational scheme. As the public scheme was not included in the 2011 reform, public employees had less incentives to lengthen their working lives. The agreed reform aligns the public scheme with the private occupational scheme addressing key pending issues of the 2011 reform. While pension expenditures will increase moderately—as the reform provides incentives to stay longer at work in exchange for higher pensions afterwards—the overall reform is expected to also increase fiscal revenues through higher income tax collections as workers stay longer at work. This would be in line with experience from private employees after the 2011 reform.

4. Despite this important progress, reform efforts should continue. The authorities are now planning to advance reform to a special scheme applicable to ⅓ of public employees and allowing for earlier retirement; the scheme covers e.g. police, military, firefighters, prison guards, and health workers. Also, integration of the old-age pension scheme for public employees on disability into the current framework is still pending.

Annex V. External Sector Assessment

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Annex VI. Risk Assessment Matrix 1

Potential Deviations from Baseline

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The Risk Assessment Matrix (RAM) shows events that could materially alter the baseline path (the scenario most likely to materialize in the view of IMF staff). The relative likelihood of risks listed is the staff’s subjective assessment of the risks surrounding the baseline (“low” is meant to indicate a probability below 10 percent, “medium” a probability between 10 and 30 percent, and “high” a probability of 30 percent or more). The RAM reflects staff views on the source of risks and overall level of concern as of the time of discussions with the authorities. Non-mutually exclusive risks may interact and materialize jointly.

Annex VII. Debt Sustainability Analysis

uA01fig35

Norway Public Sector Debt Sustainability Analysis (DSA)—Baseline Scenario

(In percent of GDP unless otherwise indicated

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: IMF staff.1/ Public sector is defined as general government.2/ Based on available data.3/ Long-term bond spread over German bonds.4/ Defined as interest payments divided by debt stock (excluding guarantees) at the end of previous year.5/ Derived as [(r – π(1 +g) – g + ae(1 +r)]/(1 +g+π+gπ)) times previous period debt ratio, with r – interest rate; π – growth rate of GDP deflator; g – real GDP growth rate; a – share of foreign-currency denominated debt; and e = nominal exchange rate depreciation (measured by increase in local currency value of U.S. dollar).6/ The real interest rate contribution is derived from the numerator in footnote 5 as r – π (1 +g) and the real growth contribution as -g.7/ The exchange rate contribution is derived from the numerator in footnote 5 as ae(1 +r).8/ Includes asset changes and interest revenues (if any). For projections, includes exchange rate changes during the projection period.9/ Assumes that key variables (real GDP growth, real interest rate, and other identified debt-creating flows) remain at the level of the last projection year.
uA01fig36

Norway Public DSA – Composition of Public Debt and Alternative Scenarios

(concluded)

Citation: IMF Staff Country Reports 2018, 279; 10.5089/9781484377055.002.A001

Source: IMF staff.

Annex VIII. Authorities’ Response to Past IMF Recommendations

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Annex IX. Status of FSAP Recommendations

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1

The term “oil” in this report refers to both oil and gas, unless explicitly specified.

2

The decrease is foreshadowed by more limited potential for further efficiency improvements and more subdued exploration activity during the last years (it takes about a decade to bring new discoveries into production).

3

Cabezon, E. and C. Henn (2018), “Wages and Competitiveness in Norway,” IMF Selected Issues Paper.

4

Registered-based statistics show a faster decline in unemployment, possibly due to an increase in wage earners on temporary contracts (Norges Bank Monetary Policy Report, March 2018).

5

The reduced VAT rate was increased from 10 to 12 percent effective January 2018.

6

The oil services industry, which also comprises parts of the manufacturing sector, accounts for close to one third of mainland Norway’s exports.

7

The recent recovery in labor productivity largely reflects a rebound from the sharp decline during the GFC, but productivity growth remains well below pre-crisis levels. Labor productivity growth in many other advanced economies also shows a similar U-shape.

8

The 2016–18 tax reform tilted taxation away from income and labor to taxes on goods. For 2018, tax changes include the reduction of corporate and personal ordinary income tax rates from 24 to 23 percent, as well as a more progressive personal income tax as thresholds and allowances are increased. In addition, a hike in the reduced rate of the VAT from 10 to 12 percent and increases in environmental taxes are being phased in.

9

Forecast errors due to an underestimation of oil production have been minor in comparison.

10

Cabezon, E. and C. Henn (2018), “Norway’s Public Sector Balance Sheet and Fiscal Implications,” IMF Selected Issues Paper.

11

The static net worth represents the public sector current assets minus current liabilities, including pension liabilities for work already performed. The intertemporal financial net worth adds to it by accounting for the present value of all future primary balances, thereby representing an intertemporal budget constraint.

12

The original motivation for a higher target, set in 2001, than in trading partners had been the phasing-in of oil revenues (which would drive up prices), but this phasing-in has now been largely concluded.

13

The main benefits of moving management of the GPFG outside of Norges Bank would be operational, chiefly to reduce demands on Norges Bank’s senior management.

14

A higher countercyclical buffer requirement of 2 percent (1.5 percent before) became effective at the start of 2018.

15

For regional house prices, see: Górnicka, L and Y. Zhang (2018), “House Prices and Labor Mobility in Norway: A Regional Perspective,” IMF Selected Issues Paper. For national house prices, see: Geng, N. (2017), “Are House Prices Overvalued in Norway,” Selected Issues, IMF Country Report 17/182.

16

More than 90 percent of mortgages in Norway are variable rate. Recent Norges Bank studies suggests that private consumption could fall by 0.4 percent for every 1 percentage point increase in mortgage rates.

17

The regulations, initially effective from beginning of 2017, include a DTI limit of five times the borrower’s gross annual income, tightened conditions for applying an amortization requirement, and lowered the LTV limit for secondary homes in Oslo to 60 percent. The permitted share of mortgages that may violate any of these criteria (“speed limit”) is 8 percent for Oslo and 10 percent outside of Oslo. The June 2018 extension left these regulations virtually unchanged.

18

For instance, Pillar II capital requirements have been set in the 4 and 5.5 percent range for banks specialized in consumer credit, well above those for other banks (1.5–2 percent). Also, an interest rate cap on consumer loans is under consideration in parliament, mainly for purposes of consumer protection.

19

This new legislation designates the FSA as the resolution authority and gives it most resolution authority powers. However, the Ministry of Finance retains the last say in the most important decisions, including decisions on whether a bank meets the conditions for resolution. The new legislation stipulates that the existing capital in the large Norwegian Banks’ Guarantee Fund, shall be transferred to two new funds: a deposit guarantee fund and a resolution fund.

20

Zhang, Y. (2017), “Closer to Best Practice —Tax Reform in Norway,” Selected Issues, IMF Country Report 17/182.

21

Cabezon, E. and C. Henn (2018), “Wages and Competitiveness in Norway,” IMF Selected Issues Paper.

22

Productivity Commission (2015), “Productivity – Underpinning Growth and Welfare,” Official Norwegian Reports, NOU: 2015:1.

23

Roughly 80 percent of all disabled receive a full 100 percent disability grade, which disqualifies them for undertaking any work.

24

The upcoming expiration of an agreement on working conditions between government and social partners, last reviewed in the early 2000s, is an opportunity. So is the Employment Committee, which has been tasked with examining the impact of current social security schemes on employment rates.

25

Henn, C. (2017), “Gender at the Frontier: Policies to Underpin High-Quality Labor Supply in Norway,” Selected Issues, IMF Country Report 17/182.

26

Hsieh, C. and E. Moretti (2017) “Housing Constraints and Spatial Misallocation,” NBER Working Paper 21154; Ganong P. and D. Shoag (2015), “Why Has Regional Income Convergence in the U.S. Declined?”, Journal of Urban Economics vol.102, p. 76–90.

27

For example, the construction permit application process has been simplified. In July 2017, the government has further tightened deadlines for public authorities to approve applications. In January 2018, a digital platform for submission and approval of construction applications was launched.

1

Cabezon, E. and C. Henn (2018), “Wages and Competitiveness in Norway,” Selected Issues Paper.

1

Note that the annual average of real house prices in 2017 was nonetheless 10 percent higher than the average observed during 2016 for two reasons: (i) house price increases cumulated during 2016, reducing that year’s average figure; and (ii) the correction in 2017 mostly occurred in the second half of the year, thereby not pulling down the 2017 annual average by that much.

2

For details see: Górnicka, L. and Y. Zhang (2018), “House Prices and Labor Mobility in Norway: A Regional Perspective,” IMF Selected Issues Paper.

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Cover IMF Staff Country Reports
Norway: 2018 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for Norway
Author:
International Monetary Fund. European Dept.
Volume/Issue:
Volume 2018: Issue 279
Publisher:
International Monetary Fund
ISBN:
9781484377055
ISSN:
1934-7685
Pages:
70
DOI:
https://doi.org/10.5089/9781484377055.002

Income Level and Income Distribution

Petroleum Production

(Million of cubic meter of oil equivalent per year)
Figure 1.

Norway: GDP and Activity Indicators

GDP Growth

(Y/Y percent change, SA)

Oil Price and Oil Investment, Historical and Projection

(Y/Y growth rate, percent)
Figure 2.

Norway: Labor Market Developments

Unemployment Rate

(Percent of labor force)
Figure 3.

Norway: Price Developments

Annual Inflation

(Percent)
Figure 4.

Norway: External Sector Developments

Nominal House Prices in Norway

(Index: Jan 2013=100)

Dependency Ratio

(Persons aged 0–14 and 75+ per person aged 15–74)

Underlying Drivers of Potential Growth

(In percent)

Norway: Secular Fiscal Trends

Structural Deficit and Pensions Expenditures

(Percent of mainland GDP)

Static Net Worth, 2017

(Percent of mainland GDP for Norway; Percent of GDP for Finland)
Figure 5.

Norway: Primary Expenditure Composition and Aging

Key Monetary Policy Rate

(Percent)
Figure 6.

Norway: Credit Developments
Figure 7.

Norway: Banking Sector Developments
Figure 8.

Norway: Housing Developments
Figure 9.

Norway: Household Debt and the 2017 Mortgage Regulations
Figure 10.

Norway: Household Vulnerabilities to Interest Rates and House Prices
Figure 11.

Norway: Commercial Real Estate Developments
Figure 12.

Norway: Corporate Sector Developments

Estimated House Price Overvaluation by Region, 2017

(In percent; range implied by staff analysis1)

Household Debt and Debt Service

(Percent, 1983 Q1 – 2017 Q4)

Interest Burden Under Shock Scenarios

Share of New Mortgage Loans with Risky Loan Terms

(Percent)

Wage Growth

(y/y, percent)

Employment Growth between 2008–2014

(Cumulative; In percent of total employment in 2008)

Gross Value Added Per Hour Worked in Selected Sectors

(Cumulative Change Since 2005)

Labor Force Participation Rates by Gender

(Percent of 15–74 year-old population)

Agricultural Protection

Manufacturing: Labor Compensation and Productivity

Services1: Labor Compensation and Productivity

Price of Key Norwegian Exports

(Index 2000=100)

Composition of Mainland Norway’s Exports, 2017

Labor Compensation Share

(Percent of gross value added)

Nominal Wage Growth by Sector, 2001–2013

(Yoy, in percent)

Manufacturing: Nonoil Related Exports

(Percent of mainland GDP)

REER and Manufactured Exports

Norway: Real House Price Growth by Region

(Y/Y change, in percent)

Population and Residential Building Stocks in Regions

(2000=100)

Loan-to-Value Ratio and Debt-to-Income on Repayment Mortgages in Norway
Figure II.1

Estimated Regional House Price Overvaluation

Norway: Fiscal Institutions

Norway Public Sector Debt Sustainability Analysis (DSA)—Baseline Scenario

(In percent of GDP unless otherwise indicated

Norway Public DSA – Composition of Public Debt and Alternative Scenarios

(concluded)