Fiscal Budget 2008: Underpinning Macroeconomic Stability

The Norwegian economy is experiencing its strongest expansion in thirty years, with annual growth in Mainland-GDP averaging more than 4½ per cent over the past four years. Employment has increased substantially and the unemployment rate has fallen to a historically low level. Real wage growth is high, due to low consumer price inflation, while producer costs have picked up only moderately so far. In order to underpin continued balanced developments of the economy, the Government proposes a Fiscal Budget for 2008 with an estimated structural, non-oil deficit that is lower than the expected real return on the Government Pension Fund – Global. This is in accordance with the fiscal guidelines of 2001.

GDP growth in Mainland Norway (excluding petroleum and shipping) is forecast at 5 per cent this year. Higher interest rates and high capacity utilisation is expected to dampen growth to an estimated 2¾ per cent in 2008. The recent turmoil in the financial markets has increased the uncertainty about the outlook for the economy. The economic expansion in the period from 2004 to 2008 is nevertheless expected to be the strongest since the beginning of the 1970s.

The guidelines for economic policy, in place since 2001, stipulate that fiscal policy shall be directed towards a gradual and sustainable increase in the use of petroleum revenues. Over time, the structural, non-oil central government budget deficit shall correspond to the expected real return on the Government Pension Fund – Global, estimated at 4 per cent. However, the actual implementation of fiscal policy must take into account business cycle fluctuations around the suggested medium-term path. When capacity utilisation in the economy is high, this calls for fiscal policy restraint relative to the medium term rule, whereas in a cyclical downturn somewhat higher spending of oil revenues may be justified. Even though a growing fund will allow for increased spending of petroleum revenue in the future, long-term budget challenges persist due to even stronger increases in pension costs and other age-related expenses. This underlines the importance of a continued prudent fiscal policy stance, and concluding the pension reform with the savings envisaged.

The Government proposes a Fiscal Budget for 2008 with a structural, non-oil budget deficit of NOK 76.8 billion, which is NOK 7 billion lower than the expected real return on the Government Pension Fund – Global. This implies an increase in the use of petroleum revenues from 2007 to 2008 of NOK 5.4 billion in real terms, equivalent to ¼ per cent of Mainland Norway trend-GDP.

The budget proposal allows for some important policy measures. Priority has been given to health care and education, and to ensure day-care for all children in 2008. The overall level of taxation will be kept unchanged at the 2004 level, but the distributional effect of the tax system will be improved.

All together, the Government proposes NOK 24.6 billion on climate and environmental initiatives in 2008.

 

Fiscal Policy

The main features of fiscal policy in 2008 are:

• A structural, non-oil budget deficit of NOK 76.8 billion, corresponding to 3.7 per cent of the capital in the Government Pension Fund – Global at the beginning of 2008.This implies an underspending of NOK 7 billion compared to the 4 per rule of the fiscal guidelines.
• An increase in the structural non-oil deficit of NOK 5.4 billion in real terms from 2007 to 2008, corresponding to ¼ per cent of Mainland trend-GDP.
• A real underlying growth in Fiscal Budget expenditures from 2007 to 2008 of 2¼ per cent.
• Unchanged overall level of taxation.
• A non-oil fiscal budget deficit estimated at NOK 36.4 billion. The deficit is covered by a transfer from the Pension Fund – Global.
• A central government net cash flow from petroleum activities of NOK 302 billion.
• A net transfer to the Government Pension Fund – Global of NOK 265 billion.
• A consolidated surplus in the Fiscal Budget and the Government Pension Fund, including interest and dividends, of NOK 344 billion.
• An estimated market value of Government Pension Fund – both the international and domestic part – at the end of 2008 of NOK 2594 billion. The capital in the Fund is still considerably lower than the old age pension obligations under the National Insurance Scheme.
• General government financial surplus (net lending) is estimated at 15 per cent of GDP in 2008, down from an estimated 17.3 per cent in 2007.

 

Tax policy

The main tax proposals for 2008 include:

• A broadening of the tax base in the net wealth tax, including increased tax values for homes and other real estate and for securities, combined with a considerable increase in minimum allowances.
• A new tax favoured private pension saving scheme is introduced.
• A new tax regime for Norwegian shipping companies that replaces the present regime. The proposed tax regime will be similar to those available in the European Union. Under the present regime, company profits are taxed only upon withdrawal of profits or exit from the scheme. As part of the phasing out of the present regime, two thirds of the deferred taxes will have to be paid over a period of 10 years. The shipping companies will be allowed to use the remaining 1/3 of the tax obligations for environmental investments.
• Increased tax on power plants.
• Adjustments in the CO₂-tax due to phase II of the emission trading scheme starting 1 January 2008.
• Differentiating of the annual tax on motor vehicles according to environmental standards and an increase in the duty on diesel fuel.
• Increased tax on mineral oil (base-tax on heating oil).

More detailed information in English on the tax proposals contained in the 2008 budget is available here.

 

Monetary policy

The monetary policy regulation of 29 March 2001 stipulates a flexible inflation targeting regime for monetary policy. The long-term role of monetary policy is to provide the economy with a nominal anchor. In the short- and medium-term, monetary policy shall balance the need for low and stable inflation against the outlook for output and employment.

Norges Bank’s (the central bank) implementation of monetary policy is oriented towards maintaining low and stable inflation. The operational target is defined as an annual increase in consumer prices of close to 2.5 per cent over time. The interest rate decisions of Norges Bank shall be forward looking, and pay due attention to the uncertainty attached to macroeconomic estimates and assessments. It shall take into consideration that it may take time for the policy changes to take effect, and it should disregard disturbances of a temporary nature that are not deemed to affect underlying price and cost increases.

The key rate (the sight deposit rate) was increased by 0.25 percentage points to 5 per cent on 26 September. Norges Bank has advised that the interest rate will be raised gradually so as to assess the effect of interest rate changes and other new information on economic developments. According to the Bank’s interest rate path published in June (in Monetary Policy Report 2/07), the key policy rate is forecast at 5¼ per cent by the end of 2007 and 5¾ per cent by the end of 2008. However, Norges Bank has indicated that if the turmoil in the financial markets persists and the krone remains strong and this has considerably consequences for the outlook for output and employment, Norges Bank’s key policy rate may be raised less than envisaged in June.

The Government Pension Fund

The Government Pension Fund was established 1 January 2006 and consists of two parts: "The Government Pension Fund – Global", previously the Government Petroleum Fund, and "The Government Pension Fund – Norway".

The income of the Government Pension Fund – Global consists of the cash flow from petroleum activities, which is transferred from the central government budget, the return on the Fund’s capital, and net results of financial transactions associated with petroleum activities. The income of the Government Pension Fund – Norway is the return on the capital under management. Management of the Fund – Global is the responsibility of the Ministry of Finance, while the operational management is left with Norges Bank.

Following the Storting’s (Parliament) discussion on Report No. 24 (2006-2007), the Ministry has decided to gradually increase the equity portion of the Pension Fund – Global from 40 per cent to 60 per cent.

The Ministry has received clear recommendations from Norges Bank and the Ministry’s Council on Investment Strategy to have a separate allocation to real estate. After reviewing key operational issues related to the implementation of real estate investments, the Ministry will conclude in the spring of 2008 in the dedicated white paper to the Storting on the management of the Government Pension Fund.

General outlook

Growth in the Norwegian economy has been strong for the past four years, with an annual growth in Mainland GDP of more than 4½ per cent. The expansion has been broadly based, with strong upswing in both goods and service industries. Domestic demand has been fuelled by low interest rates, and growth in household consumption has grown more than household income. High investments in the petroleum sector and favourable developments in the export markets have also contributed to the upswing in the economy.

Mainland GDP growth is forecast at 5 per cent in 2007. Higher interest rates and high capacity utilisation are expected to dampened growth to an estimated 2¾ per cent in 2008.

The vigorous economic expansion has contributed to strong employment growth. Growth in domestic labour force participation and an inflow of workers from other countries, in particular from Poland and the Baltic states, has been important for the rise in employment. The underlying growth in employment continues to be strong and is forecast at 3.5 per cent in 2007 and 1 per cent in 2008. The unemployment rate is now at a 20 year low and is forecast at 2½ per cent both in 2007 and 2008.

Wage growth has been relatively modest so far in this business cycle, but the tightening of the labour market has now resulted in higher wage growth. Wage growth is expected at 5 per cent both this and next year.

Higher wage growth has led to higher prices on domestically produced goods and services (excluding energy goods). Growth in the consumer price index (CPI) has been relatively subdued so far this year, especially due to lower electricity prices and a continued decline in prices on imported goods. Electricity prices are expected to pick up next year, and consumer price inflation is estimated to increase from ½ per cent this year to 2½ per cent next year. Adjusted for changes in excise duties and excluding energy, consumer price inflation (CPI-ATE) is forecast at 1½ per cent in 2007 and 2 per cent in 2008.

The estimates on wage growth and consumer price inflation imply a real wage growth of 4½ per cent in 2007, which is the highest growth in more than 30 years. Real wage growth is estimated at 2½ per cent in 2008.

The oil price has fluctuated considerably so far this year, with average oil price close to NOK 400 per barrel. The projection in the National Budget 2008 is based on an oil price of NOK 400 per barrel in 2007 and NOK 360 in 2008.

Key projections for the Norwegian economy. Per cent¹

	2006 NOK billion 2	2006	2007	2008
Private consumption	873.6	4.4	6.0	3.5
Public consumption	418.2	3.3	3.1	2.3
Gross fixed investments	399.7	7.4	9.9	1.3
Petroleum	95.5	4.4	15.0	0.0
Business sector, Mainland Norway	135.6	8.5	10.7	4.0
Exports	1 002.5	1.6	1.6	5.1
Crude oil and natural gas	498.4	-6.5	-5.8	5.4
Traditional goods	271.5	5.9	8.0	4.3
Imports	609.7	8.2	8.3	3.8
Traditional goods	403.2	9.7	9.0	3.3
Gross domestic product	2 151.7	2.8	3.5	3.1
Mainland Norway	1 563.2	4.6	5.0	2.8
Memorandum items:
Consumer price inflation (CPI)		2.3	½	2½
Underlying inflation (CPI-ATE)		0.8	1½	2
Wage growth		4.1	5	5
Employment growth		3.1	3.5	1.0
Unemployment rate (LFS)		3.4	2½	2½
Current account balance. Per cent of GDP		16.4	13.0	11.4

1) Constant 2004 prices
2) Current prices
Sources: Statistics Norway and Ministry of Finance

 

 Key figures for the petroleum sector

	2006	2007	2008	2011	Oil price sensitivity 2008 1
Assumptions:
Crude oil. NOK per barrel	412	400	360	307
Production. Mill. Sm3 oil equivalent	249	237	254	258
Crude oil and NGL,	161	149	146	140
NOK billion:
Export value	511.4	470.3	460.2	410.8	7.4
Accrued taxes and royalties	221.8	193.6	174.9	126.1	6.4
Paid taxes and royalties	217.3	193.7	184.1	135.3	3.2
Net cash flow	355.4	319.3	301.8	241.4	6.1

1) Effects of an oil price increase of NOK 10 per barrel
Sources: Statistics Norway, Ministry of Petroleum and Energy and Ministry of Finance

 

 

Key figures for the Fiscal Budget and Government Pension Fund. NOK billion

	2006	2007	2008
1. Fiscal Budget
Total revenues	994.9	1 010.5	1036.8
Revenues from petroleum activities	376.6	340.6	328.1
Revenues excl. petroleum activities	618.3	669.9	708.7
Total expenditures	683.5	716.5	771.4
Expenditures on petroleum activities	21.2	21.3	26.3
Expenditures excl. petroleum activities	662.3	695.2	745.1
Surplus before transfers to the Pension Fund – Global	311.4	294.0	265.4
- Net revenues from petroleum activities	355.4	319.3	301.8
= Non-oil budget surplus	-44.0	-25.3	-36.4
+ Transfers from the Pension Fund – Global	57.4	25.3	36.4
= Fiscal Budget surplus	13.4	0	0
2. Government Pension Fund
Net revenues from petroleum activities	355.4	319.3	301.8
- Transfers to the Fiscal Budget	57.4	25.3	36.4
+ Dividends on the Pension Fund	64.1	80.4	78.6
= Surplus in the Pension Fund	362.1	374.4	344.0
3. Fiscal Budget and Government Pension Fund consolidated surplus	375.5	374.4	344.0

Source: Ministry of Finance

 

General government financial balance. NOK billion

	2006	2007	2008
Fiscal Budget surplus	13.4	0	0
+ Surplus in Government Pension Fund	362.1	374.4	344.0
+ Surplus in other central government and social security accounts	-8.9	-0.1	2.7
+ Definitional differences between Fiscal Budget and national accounts	13.4	9.5	-2.7
+ Direct investment in state enterprises	5.5	5.1	8.5
= Central government financial balance	385.5	388.9	352.5
+ Local government financial balance	3.2	-3.2	-5.2
= General government financial balance	388.7	385.7	347.2
In per cent of GDP	18.1	17.3	15.0

Sources: Statistics Norway and Ministry of Finance