12-09-2022 13:28

How are Norwegian households affected by rising interest rates?

Strong price growth and higher interest rates will mean tighter finances for many Norwegian households. Below, we illustrate the consequences this will have on three families with the same income but different debt-to-income ratios. Lower savings, use of accumulated assets and more people in work will mitigate the impact on overall consumer spending.
Family eating together in the garden in summer

When the pandemic hit Norway about two years ago, Norges Bank cut its policy rate to a record low 0%. This boosted the disposable income of everybody with debt. At the same time, lockdowns and travel restrictions resulted in sharply lower consumption. Higher income and lower spending made it easier to save up and many felt they had unusually large financial leeway. But now the party is over and many households will feel the pinch.  Highly indebted households will be impacted the most.

To illustrate the consequences of the strong price growth and rising interest rates we show the financial impact on three families from the beginning of 2020. At that time, the policy rate was 1.5% and mortgage rates generally averaged 3%. In May 2020, the policy rate was cut to 0%. Since September last year Norges Bank has hiked its policy rate – first gradually and later more aggressively. We base our examples on the assumption that the policy rate will be 2.75% at end-2022. 

In our examples, the gross income of each family is NOK 1m at the beginning of 2020 but their debt-to-income ratios are different. We assume that the families with mortgage loans took out these loans in January 2020 with amortisation over 25 years based on the annuity principle. Our calculation of living expenses is based on the consumer price index (CPI). The CPI is an index of living expenses where electricity, food and other consumer goods and services are weighted based on average consumption. The weighting of these components may vary significantly for different families and the results of our calculations should therefore only be considered illustrative. Low-income families use a much larger share of their income on basics such as food and electricity. They will be hit the hardest. Changes in income from 2020 to 2023 may also vary considerably from family to family. For the purpose of our examples we assume that the wages of all three families grow in line with the central wage settlement (industry), which has generally been slightly below average. Moreover, we assume mortgage rates are 1.5% points above the policy rates over the entire period.

The first two columns of the table show each family’s debt (column 1) and their disposable income after tax per month (column 2) after mortgage payments in January 2020. The next three columns show changes in the three families’ purchasing power (disposable income adjusted for price growth) in percent relative to January 2020. 

A / Changes in purchasing power from 2020 to 2023
Disposable real income after tax, NOK/%

 

Disposable income (per month)

 

Change from Jan 2020 in %

(2020-kroner)

 

Jan 20

Jan 21

Jan 22

Jan 23

Family 1 (Debt 5 million)

41,717 kr.

7.0%

5.7%

-2.6%

Family 2 (Debt 2,5 million)

52,198 kr.

3.2%

2.2%

-2.3%

Family 3 (No debt)

62,734 kr.

0.6%

-0.1%

-2.2%

 
The party is over and many households will feel the pinch.

Kjetil Olsen, Chief Economist, Norway

 

All three families will experience a decline in purchasing power from January 2022 to January 2023 – but the higher the debt, the steeper the decline. The purchasing power of the family with no debt will weaken by some 2%, while the family with a debt-to-income ratio of 5 will experience a steep decline of 8%. The purchasing power of the family with a debt-to-income ratio of 2.5 will fall by around 4% and this family probably represents the typical household in Norway from a macro perspective. 

For the families with debt, the decline in purchasing power during 2022 will be larger than the improvement from January 2020 to January 2021. All three families in this example will experience slightly weaker purchasing power (about 2%) in early 2023 than they had before the pandemic. 

Although the financial situation of many households will become tighter, several factors will help mitigate the overall effect on household consumption. First, average wages will likely increase more than agreed in the central settlement. Second, the number of people in paid work is much higher than one year ago. Third, the savings rate will likely decrease from record-high levels. And lastly, many will be able to use their savings  accumulated during the pandemic. Nonetheless, there is reason to expect that consumption growth will be considerably weaker going forward than we have seen so far after the reopening of the economy.

This article originally appeared in the Nordea Economic Outlook: Feeling the squeeze, published on 7 September 2022. Read more from the latest Nordea Economic Outlook.

Authors

Name:
Kjetil Olsen
Title:
Chief Economist, Norway
Name:
Dane Cekov
Title:
Senior Macro & FX Strategist
Economic Outlook
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