Crude slumps extending effects to Norges Bank and NOK

(Corrected title from 'Norges' to 'Norges Bank')

The recent oil price slumps kept down by Norges and in turn NOK has weakened significantly over the summer, driven lower by an extremely dovish Norges Bank as well as renewed weakness in oil, even as data surprises improved over the same period. In fact, the trade weighted NOK, it is currently at historical lows and NOK REER is close to 15% below its long-term average suggesting that some retracement may be in order.

The reaction of the Norges bank to the new oil pattern was hurried and the timing of the drop and coinciding with the peak in oil investments in Norway clarifies some of the increased sensitivity. Nevertheless, uncertainty on the oil outlook, recent weakness in employment data and a Central Bank that seems to have its finger on the trigger for another rate cut could keep pressure on NOK in the near term.

With oil making up around 20% of Norway's GDP, the importance of oil prices for NOK is undisputed. A sustained drop in oil prices results in less favorable terms of trade which, in isolation, implies a weakening currency. The relationship is not as straightforward as it seems however, and the sensitivity of the exchange rate to oil prices has varied over time, though it has increased sharply since oil prices plunged last year.