Norges Bank raised the projected path for its key interest rate considerably higher in the past week. The central bank is now signalling that it anticipates interest rates above 4.5% at the end of 2007, versus around 4% previously. The revision is not because Norway has any great problem with inflation - inflation is, in fact, still very low - Norges Bank is merely acknowledging that the Norwegian upswing cannot be allowed to run for much longer. The labour market is already straining under the pressure of unemployment at 2% and heading steeply down.
Norges Bank’s revision is one more step away from an inflation-driven path for interest rates and towards an attempt to prevent both imbalances in the economy and the risk of inflation. What is more, Norges Bank is not alone in shifting to this stance. The ECB has long argued that waiting to raise interest rates until inflation increases is waiting too long, and the Swedish Riksbank has also gone some way to adopting the same approach.
Many investors are expecting the global economy to lose momentum on the back of slower growth in the USA. But what if this does not unfold? What if the US does not slow that much? Unemployment in the OECD area is currently lower than at the top of the stock market bubble in 2000. And it is not just Norway that is facing capacity problems in its labour market, the entire OECD area is in the same situation - despite outsourcing to emerging markets. If the global economy does not slow enough to soon push up unemployment, many central banks will be following in the footsteps of Norges Bank and stamping even harder on the brakes.
