A country normally seeks to achieve balanced public sector budgets over the business cycle. Norway is in a special situation, however, because of its petroleum activities. Revenues fluctuate sharply in pace with the oil price and domestic business cycles. Oil and gas production will peak a few years into the next century. It is therefore important to achieve a substantial surplus now, and accumulate financial wealth that can be used to finance the welfare system when oil revenues taper off. Otherwise, welfare schemes may have to be scaled back considerably when these revenues fall. The Petroleum Fund consists of the accumulated surpluses of government finances. Capital was first allocated to the Fund in 1995. At the end of 1998 the market value of the Fund’s capital was approximately NOK 170 billion. National insurance scheme expenditure will increase in the future. In 1999 expenditure on retirement and disability pensions is expected to amount to NOK 91 billion. This corresponds to about 8% of Norway’s GDP. The percentage will probably double over the next 30 years, and this will happen after Norwegian oil production has peaked. The challenge to the real economy is that the working population will decline sharply, while the proportion receiving income from the public sector will rise. Projections for government oil revenues have been based on an oil price in the order of NOK 100 to NOK 120 per barrel. This will generate substantial government surpluses in the years ahead, and a seemingly steady accumulation of capital in the Petroleum Fund.
However, we must take into account that in the long run the krone exchange rate cannot deviate substantially from the level implied by economic fundamentals. We must therefore to some extent expect a change in the krone exchange rate in response to major changes in our terms of trade. 11  BIS Review 20/1999  Norges Bank’s mandate has been formulated in the light of the experience of a fixed exchange rate policy earlier in the 1990s. This experience does not imply that the central bank is to conduct a traditional fixed exchange rate regime, with established fluctuation margins and the obligation to intervene, as reflected in the mandate. Norges Bank will orient monetary policy ‘towards maintaining a stable krone exchange rate against European currencies’. However, it is taken into account that the krone exchange rate will vary. The Exchange Rate Regulation therefore states that ‘in the event of significant changes in the exchange rate, monetary policy instruments shall be oriented with a view to returning the exchange rate over time to its initial range’. We must learn from the situation that arose in the autumn of 1996 and winter of 1997 when strong appreciation pressures prompted Norges Bank to reduce its key rates. Norges Bank’s first response to such appreciation pressures is to provide advice concerning changes in the budget. Norges Bank will orient its instruments towards maintaining a stable krone exchange rate. We must not allow ourselves to be blinded by daily exchange rate quotations.