Norges Bank likely to cut rates in H2 despite high inflation due to weaker growth outlook

The Norges Bank is depending on an expansionary monetary policy because of the weaker economic outlook. The central bank has cut its interest rate by 100 basis points to current 0 .5 percent since the end of 2014. The Norges Bank, after lowering rates on 17 March, hinted at another rate cut in H2 2016. It did not even exclude lowering rates into negative territory if it becomes necessary.

The central bank notes that inflation will exceed the target of 2.5 percent for certain period of time. For instance, inflation in May came in at 3.4 percent, whereas the core rate, excluding energy and adjusted by tax effects, has been more than the central bank’s target since mid-2015, coming in at 3.2 percent.

Weaker korne is mainly driving the Norwegian inflation. The NOK has depreciated markedly since autumn of 2014 because of declining oil prices and the central bank’s key rate cuts. Imports are becoming costly due to weaker NOK and is therefore being reflected in the consumer prices, said Commerzbank in a research report. Meanwhile, the weaker krone is assisting in driving through the structural changes of Norway’s economy in a bid to lower the reliance from the oil and gas sector.

The Norges Bank, in June, has hinted again of another rate cut, possibly in September, because of the weaker growth outlook. The central bank projects the NOK to appreciate in the medium- term and bring inflation back to the target rate.

But, following this strategy, the Norges Bank is in the risk of losing control of inflation, according to Commerzbank. If the prices increase markedly and more rapidly than it expects, it might undo the competitive edge formed by the weak NOK. Furthermore, it might possibly compel the central bank t o hike rate again quickly to control inflation. This might then suppress the economy, especially as the expansionary monetary policy in the past few years has resulted in property market boom. Thus, a surprising hike in interest rates might result in a property crisis in Norway, added Commerzbank.