The high level of interest rates and the strong krone reflect real economic driving forces, such as a high level of petroleum revenues, a tight labour market and strong growth in household income, consumption and borrowing. In addition, a shift in the wage formation process may have added to the particularly high rate of overall wage growth. If these forces are restrained, there is also hope that the pressures on monetary policy will subside. The bond market Market interest rate rates determine the compensation afforded to savers for abstaining from consuming today and the price the investor has to pay for borrowing the savings of other agents. The financial sector is the intermediary that channels savings to profitable investment projects and seeks to achieve optimal use of existing capital. The financial system should also enable borrowers and investors to diversify risk. Banks and securities markets ensure the distribution of capital and risk management. • The financial system has been subjected to shocks: • Cyclical downturn in the major industrial countries • The IT share bubble burst • Terror attacks in the US • Argentina "bankrupt”  • Confidence eroded • Large-scale fraudulent accounting practices by US companies  SG Kommunalbanken, 30.august 2002  In the last few years, the financial sector has been under considerable strain. There has been a downturn in the major industrial countries, a collapse in technology stocks, terror attacks in the US and default on government debt in Argentina. Equity prices have plummeted and bond defaults have increased sharply.
More fund-based schemes will generate a positive stimulus to the Norwegian securities market, even if an appropriate risk diversification would imply that a large portion of the capital in pension funds is  8  BIS Review 48/2002  invested abroad. A rising share of fund-based schemes in other countries will also increase investment in Norway. The statutory regulation of pension fund investment will also be of importance. For example, today most countries have relatively stringent restrictions on the equity portion in pension funds’ portfolios. However, a proposed new EU directive would make it possible to increase this portion, which may have an impact on demand for securities. Recent developments in financial markets have shown that a substantial measure of uncertainty is associated with the return on such investments. This uncertainty is related to future economic developments, which will also apply to the pay-as-you-go system. It is true that Government can influence this through tax changes. Adverse economic developments will, however, put the ability and willingness to increase taxes in order to honour pension obligations to the test. This uncertainty will be even greater in a country like Norway that is highly reliant on one or a small number of industries. Government finances are, for example, still vulnerable in the face of a sustained decline in oil prices. The uncertainty about future developments is continuously reflected in a fund-based system. An essential question associated with a fund-based system is who is to bear the risk related to returns.