Article | Last updated: 18/06/2015
An expert commission tasked with how to apply the fiscal rule for use of oil revenues has today delivered its report to Siv Jensen, Minister of Finance. The commission recommends a more gradual phasing in of oil revenues in the years ahead, than in the years after the introduction of the rule in 2001. When deviations from the 4 per cent path are large, as in the present situation, the Government should plot an explicit course to gradually return to this path. The commission points to additional rules that may be useful when setting such a course.
The commission was appointed October 17, 2014 to consider how to apply the fiscal rule in a situation when the Government Pension Fund Global (GFPG) is large and fluctuates widely in value. The mandate asks the commission to consider the need to supplement the fiscal policy guidelines with additional rules or by identifying certain considerations that should be emphasised in the setting of fiscal policy. The commission was also asked to take into account the interests of future generations and the various challenges facing the Norwegian economy in the short and long term. The commission has been led by Professor Øystein Thøgersen, and has had broad representation.
The commission has agreed on three main recommendations:
1. The Government should plot a course to gradually return to the 4 per cent path
The establishment of the fiscal rule in 2001 was based on several considerations, including intergenerational equity, activity in competitive industries, as well as a smooth development in the tax level and in public services. These considerations are still important and have been sought taken into account through a flexible application of the rule. Flexibility has been strong feature of the rule. Going forward, the rule can become more demanding to practice. The use of oil revenues is now well below the expected real return of the GFPG, estimated at 4 per cent, after strong growth in the Fund's capital in recent years.
When deviations from the 4 per cent path are large, as in the present situation, the Government should plot an explicit course in the fiscal budget to gradually return to this path. This will give fiscal policy an operational target in the short and medium term that fully can take into account the underlying considerations that motivated the fiscal rule. Such a course has so far been plotted in situations where the use of oil revenues have exceeded 4 per cent of the Fund's capital, but currently little guidance is provided. Drawing up a concrete, multi-year strategy for fiscal policy is well in line with recommendations from the IMF and the OECD.
2. The course should be based on a more gradual phasing in of oil revenues
The increase in the spending of oil revenues after 2001 has on average given an annual, expansionary fiscal impulse of 0.3 percentage points (measured as the change in the structural, non-oil deficit in the fiscal budget as a share of trend-GDP for mainland Norway). A number of factors now point to a more gradual increase in the spending of oil revenues in the years ahead:
- The spending of oil revenues over the fiscal budget has already reached a high level.
- A swift increase in spending will create a need for fiscal tightening in few years, long before the thrust of the increase in age-related expenditures.
- The path for the expected real return of the Fund has changed markedly after 2001, when it was estimated that it would allow for an increase in spending of oil revenues to at least 2050.
- Lower activity on the Norwegian continental shelf will demand structural changes in the mainland economy. Fiscal policy must take the business cycle into account, to support sound capacity utilisation, but is not the answer when the principal challenge is to strengthen competitive industries. This applies in particular as long as there still is room for manoeuvre in monetary policy, which is the primary stabilisation tool.
- The real return of Fund may be low the next 10-15 years.
- The outlook for the Norwegian economy and associated tax income is also uncertain.
- It is more difficult to reduce the spending of oil revenues than to increase it, both economically and politically.
A more gradual increase in spending is better suited to uncertainty, population aging and declining activity on the continental shelf. More gradualism will also facilitate a smooth development in the tax level and in public services. Given the current outlook, the spending of oil revenues will then be well below the 4 per cent path for many years to come.
3. Additional rules can be useful when plotting a course
Additional rules may give guidance when plotting a course to return to the 4 per cent path. The report emphasises two of the considered rules: gradual phasing-in and limited Fund withdrawal. These rules entail a more gradual increase in spending of oil revenues, and will allow an extension of the period where the spending of oil revenues gradually increase as a share of GDP.
- The additional rule with limited Fund withdrawal for a period of time may allow Norway to steer clear of a course where the spending of oil revenues swiftly increases as a share of GDP, only to be cut back when age-related expenditures come to bear, a few years later.
- The additional rule with gradual phasing-in sets a limit on the fiscal impulse when spending is below the 4 per cent path and capacity utilisation in the economy is normal. Even with a fiscal impulse limited to 0.1-0.2 percentage points of mainland GDP, the spending of oil revenues can increase every year by roughly 5-8 billion NOK, measured in constant prices.
The two supplementary rules complement each other. The rules cannot replace discretion in setting fiscal policy. Inter alia, consideration must be given to the business cycle.