Norway Delivers Shock Rate Cut to 0% Amid Worst Slump Since WWII

(Bloomberg) -- The central bank of Norway delved into uncharted territory on Thursday, cutting its main interest rate to zero and predicting the worst economic contraction since World War II.

The quarter-point rate cut was only expected by two of the 21 economists surveyed by Bloomberg. Norges Bank said the severity of the Covid-19 crisis and the historic plunge in oil prices meant the extreme policy response was needed. It expects Norway’s fossil-fuel-reliant economy to contract more than 5% this year.

The bank said its decision was unanimous, but also signaled it didn’t want to reduce rates further.

“Activity in the Norwegian economy has fallen abruptly as a result of the coronavirus pandemic,” it said. “The downturn is amplified by the severe impact of the pandemic on surrounding countries and by a sharp fall in oil prices.”

Policy makers in Oslo had already resorted to an unprecedented series of measures in March, slashing 1.25 percentage points off the main rate over two emergency meetings. Norges Bank has also added cheap bank loans and currency interventions to its arsenal.

Kari Due-Andresen, chief economist at Handelsbanken, said the cut made sense amid the “historically deep downturn” now facing Norway’s mainland economy. Besides Handelsbanken, only Capital Economics correctly predicted Thursday’s rate move, of those surveyed by Bloomberg.

“This is it in terms of rate cuts, in our view,” said Johanna Jeansson of Bloomberg Economics. “Norges Bank sets out to keep financial markets functioning, but it will be up to the government to get the economy going once the pandemic loosens its grip.”

Norway’s currency traded about 1.3% stronger against the euro after the announcement, compared with about 2.1% before.

Thursday’s rate reduction was all the more surprising given the bank’s past signals that it’s skeptical toward zero and subzero rates, because of the potential damage they might do to banks. But Norges Bank said the extreme policy may now prevent an even worse economic crisis from taking hold and becoming entrenched.

“Low interest rates cannot prevent the coronavirus outbreak from having a substantial impact on the Norwegian economy, but can help dampen the downturn. As the situation normalizes, low interest rates will support a faster rebound in activity. This may reduce the risk of unemployment becoming entrenched at a high level.”

Governor Oystein Olsen said it was the bank’s “current assessment of the outlook and balance of risks” that the key rate “will most likely remain at today’s level for some time ahead. We do not envisage making further policy rate cuts.”

For Western Europe’s biggest crude producer, the fallout from the coronavirus pandemic has been compounded by a devastating collapse in oil prices. One official estimate puts the economic contraction in March alone at 14%.

On Thursday, Norges Bank predicted a 5.2% GDP slump for all of 2020, with a 3% rebound expected next year (the estimates are for Norway’s mainland economy).

The economic pain of the double crisis is forcing the government to make record withdrawals from Norway’s $1 trillion wealth fund. As a result, the investment vehicle may have to liquidate assets for the first time in its history to provide the cash the government needs.

©2020 Bloomberg L.P.