A hawk in a sky of doves

Global growth projections have been diminished in recent weeks as economists are considering the repercussions of trade uncertainty, the rise in geopolitical tensions as well as deteriorating economic data. With these events in mind, the IMF cut its global growth forecast to a decade low of 3% while Germany slashed its economic outlook for 2020.

In this context, moribund macro data could affect the investors in a negative way. This difficult environment could generate pressure on business sentiment.  It will force companies to keep on hold or cancel new projects.  As a consequence, it could initiate a negative downside for asset prices. In order to counteract this trend, Central Bankers have limited options. In the past years, the best option was that of interest rate cuts combined with unconventional monetary policy also known as quantitative easing.

However, many economists and central bankers have raised the question of whether accommodative policy alone is sufficient or not. They argue that fiscal measures should be implemented by governments to incentivise and support growth. In his latest statement Draghi himself mentioned that the current accommodative stimulus “may have to last a long time if there is no support from fiscal policy”. The aim of lowering interest rates is to support the economy. This is done to increase the demand for borrowing with a positive impact on spending. Effectively, a reduction in interest rates also influences the exchange rate and President Trump himself had called out on the Federal Reserve to lower interest rates, as he felt that lowering interest rates will make the dollar less expensive and make US products more attractive for foreign clients.

In September both the FED (Federal Reserve Bank) and the ECB (European Central Bank) adopted  into an accommodative stance, citing global growth and trade wars as a contributor for the FED to lower the target range for its key interest rate by 25 basis points, to between 1.75% and 2% and the ECB reducing the deposit facility interest rate by 10 basis points to -0.50%. The latter will restore the asset purchase programme (APP) at a monthly pace of €20 billion as from the 1st November, the same day  Lagarde will succeed Mario Draghi, whose eight-year term as President of the ECB comes to an end. Mario Draghi will be remembered as the only ECB president not to have raised interest rates in his tenure.

With interest rates levels at their lowest in many developed countries, one may ask how many Central Banks have reverted to such a tool?  Nowadays, loosening of monetary policy has become common practice. In fact, in 2019 more than 30 Central banks have cut interest rates at some point, and as such, a central bank that actually raises interest rates under current market conditions would definitely make the news. In my previous article, “The Northern Light” I made reference to Norway, of which I will contribute some insight on this article relating to the same country.

The Norges Bank (Norwegian Central Bank) has a different approach compared to the other Central Bankers’, but they have also raised its benchmark interest rate by 25bps to 1.50% during its September meeting, the third increase in a year. Norway is unique in the current environment to adopt this strategy in the G10 universe. What is however surprising, is the interpretation of the credit market in relation to the foreign exchange market since, interest rate differential between the Norwegian sovereign increased significantly over the past year versus the German bund, while the Euro appreciated against the NOK (Norwegian krone). Ceteris paribus, the former should have supported a stronger NOK. Thus, in my view, the Norwegian krone rather than supporting the stable fundamentals of the economy fell as a consequence of changes in risk sentiment brought from an escalating trade war, Brexit uncertainty and decline in oil prices.

Oystein Olsen, Norges Bank’s governor cited that growth in the Norwegian economy remains solid and capacity utilisation is somewhat above a normal level. The Norges Bank governor also gave some clues that the probability of future interest hikes remain on the table. In an article in the Financial Times the Central Bank governor provided insight into highlighting the divergence amongst other Central Bankers, where the country is not concerned about being different to others as the country has strong public finances, a strong petroleum industry and an economy that has exceeded expectations. The Norwegian krone has also remained weak, giving the central bank further room to raise interest rates without hurting exports.

That being said, analysts monitoring developments in economic sensitive data must mention that since the recent interest rate hikes, unemployment figures rose slightly while the inflation rate declined to 1.5% (Norges Bank aims at setting its inflation close to 2% over time). Additionally Norway’s industrial production fell 9.2% year-on-year (YoY) in August 2019, following a 5.7% contraction in the previous month. This was the eighth straight monthly decrease in industrial activity and the steepest since September 2016. It is no surprise that the Norges Central bank actually kept interest rates at 1.5% in its latest meeting on the 24th October 2019.

In its latest Monetary Policy Report of September 2019, there is a reference to uncertainties arising from the UK’s exit from the EU (United Kingdom is the largest trading partner of Norway). If this event does occur, there could be some external headwind which will add downside risks accordingly. With this event yet to reach a certain conclusion coupled with global growth uncertainty (which is still at the forefront of everyday discussion) the probability of further interest rate hikes seems to be skewed to the downside. The Executive Board’s current assessment of the outlook and balance of risks seems to suggest that the policy rate will most likely remain at this level in the coming period.

Having said that, it may be interesting to see how the sequence of events may unfold both on the upside or downside. One thing is certain – the Norwegian country’s model has been bearing success, while other European countries are still in the process of wanting to stimulate economic growth. The Norwegian government is also investing heavily in infrastructure, which could continue to complement the construction sector. Various infrastructure improvements are to be continued under the current ten-year National Transport Plan running to 2029, focusing on road and rail enhancements.

The countries transition to achieve a green economy status is backed by targeting a 40% reduction in greenhouse-gas emissions by 2030. The government also seems to allocate more money for Enova, a state-run company, funding green-energy start-up to boost energy efficiency and provide emissions solutions for commercial transport, including shipping. The Norwegian parliament in June approved a plan to divest independent oil exploration and production companies from its $1 trillion sovereign-wealth fund, which will also make the Norwegian economy less dependent on oil prices.

In an ideal world, many of us would all appreciate global tension to deteriorate and global growth to take an upward route. If this scenario had to occur, I anticipate a continued success coming out from Norway. On the other side of the spectrum, one has to anticipate an increase in global risks as a possibility. On this less than wanted scenario, I still feel that the Norges Central bank has more ammunition and tools at its disposal compared to most global Central Bankers if economic conditions deteriorate.


Mark Muscat, B Com (Hons) (Banking and Finance), M Sc (Melit), is a Financial Analyst from the Asset Management Department at Jesmond Mizzi Financial Advisors Limited. This article does not intend to give investment advice and the contents therein should not be construed as such. The Company is licensed to conduct investment services by the MFSA and is a Member of the Malta Stock Exchange and a member of the Atlas Group. The directors or related parties, including the company, and their clients are likely to have an interest in securities mentioned in this article. Investors should remember that past performance is no guide to future performance and that the value of investments may go down as well as up. For further information contact Jesmond Mizzi Financial Advisors Limited of 67, Level 3, South Street, Valletta, on Tel: 2122 4410, or email [email protected]