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Whilst we see no risk of the Norges Bank adjusting rates this week, the extent to which the central bank updates its guidance will be of consequence to markets.
With inflation data undershooting December’s projections but NOK appreciation since proving fragile, the extent to which the Norges Bank downgrades its inflation forecasts and alters its tone in a dovish direction will be influential for the krone.
All told, we think the Norges Bank’s revealed sensitivity to NOK weakness in 2023 warrants an unchanged tone from January and only a marginal downgrade in this year’s inflation projections. This should be seen as hawkish at the margin given the recent evolution of the data.
As alluded to, this meeting is set to be accompanied by a new Monetary Policy Report. With no change in rates expected, this should be the main focus for traders. Most significantly, a downgrade to the Bank’s inflation forecast looks likely given recent price growth developments. February CPI eased by more than expected, dropping from 4.7% to 4.5% YoY, despite market expectations for no change. Similarly, underlying inflation also eased, slipping 0.4pp to 4.9%, also against market expectations for no change. This leaves both measures tracking below the Bank’s December MPR projections, which saw price growth at the end of Q1 2024 at 4.9% and 5.4% for headline and underlying CPI respectively.
Developments in the labour market weigh against a significant downgrade in the Norges Bank’s inflation outlook, however. Notably, fourth quarter earnings data showed pay growth of 6.3% YoY, unemployment readings remain low, and the Regional Network survey saw wage growth for 2024 was revised up 0.4pp to 4.9%, all of which point towards sticky underlying inflation pressures.
Moreover, mainland GDP also expanded in Q4, growing by 0.2% QoQ. While this remains below historical averages, in a context of weak eurozone growth and lower oil prices, it suggests domestic growth remains strong and should support further labour market tightness. Additionally, the krone’s year-to-date weakness should also reduce the extent to which the central bank projects further disinflation purely based on the currency’s influence. Whilst the import weighted NOK exchange rate has appreciated some 3% since the December meeting, the krone’s year-to-date underperformance against both the euro and the dollar suggests the currency’s disinflationary impact may be short-lived, especially in an environment of lower oil prices and more persistent inflation pressures abroad.
As a result, we expect the Norges Bank will subjectively offset some of the disinflationary impulse this will have in its inflation projections, all the while stressing the upside risk further NOK depreciation poses to its forecasts.
The current import weighted NOK exchange rate is only marginally below December’s longer run projection (dotted line), suggesting that a significant downgrade to the inflation path on account of recent NOK strength is unlikely
Whilst in isolation a downgrade to inflation projections looks dovish, this should already be priced in given the recent evolution of data. Therefore, we suspect markets might be surprised by how small any downgrade ultimately is, suggesting that risks are for a stronger krone this week. Arguably the signals on underlying inflation would alone warrant no change in rhetoric at this latest policy meeting, but this is doubly true given recent krone performance. EURNOK has climbed by 2.6% off its December low, and while the current selloff has been sufficiently modest not to alarm policymakers, we suspect they will be conscious of accelerating this move. This is particularly true given the central bank’s sensitivity to excessive krone weakness at the end of 2023, seen by many as the key factor motivating the Norges Bank’s final rate hike in December.
As such, we see little reason for the committee to risk upsetting markets with a further pivot towards rate cuts this week. Instead, a runback of recent messaging looks likely to us, an outcome that should be seen as hawkish by markets, keeping the krone supported and leaving the Norges Bank on track to start easing in Q3.
Authors:
Simon Harvey, Head of FX Analysis
Nick Rees, FX Market Analyst