Markets worry that the next chapter will be another unfortunate event. I would call this the “slow healing” story. Recoveries from financial busts tend to be slow and painful. Indeed, that is why it is worth doing all that you can – in advance and in good times – to avoid financial crises. The academic literature suggests it takes an average of eight years to recover.2 If in the meantime you are hit by other bad surprises it can take longer. And in this  1  “A Series of Unfortunate Events” is a series of children’s novels written by Daniel Handler (using the pen name of Lemony Snicket). 2  This finding refers to recovery in real per capita GDP to its pre-crisis level rather than to making up lost output relative to precrisis trends. See Reinhart, C.M., and Rogoff, K.S. (2014) “Recovery from financial crises: evidence from 100 episodes”, NBER Working Paper No. 19823. Reinhart and Reinhart (2015) report that ten years after the fifteen worst financial crises of  BIS central bankers’ speeches  1  story most of the events are related. As many commentators have observed, as well as country-specific factors, many of the stresses now seen in emerging markets are knock-on effects, if not from the financial crisis itself, then from the responses to it in the post-crisis recession. One can tell a version of this slow healing and unfortunate events story for the world economy as well as for the UK.
(Chart 12: Norges Bank’s key policy rate) In order to prevent inflation from becoming too low and to dampen the impact of weaker developments abroad on the Norwegian economy, the key policy rate was reduced to 1.75 percent in December 2011. With high money market premiums and elevated credit premiums, low key rates are not passing through fully to banks’ lending rates. The difference between various lending rates is unusually wide at present. Many households pay a mortgage interest rate of around 4 percent, and rates on corporate loans are between 5 and 6 percent. Monetary policy is the first line of defence in demand management. Norges Bank still has room for manoeuvre in interest rate setting – in both directions. The question nonetheless remains of whether it is desirable to use monetary policy to accelerate the pace of inflation when the countries around us are in a recession. Even if the krone depreciates somewhat, relatively high cost growth in Norway that could quicken the pace of inflation might lead to a further deterioration in competitiveness. This cannot be the way to go. Moreover, low interest rates over a prolonged period tend to amplify an upward spiral in house prices and lending. Imbalances that build up in credit and property markets  6  BIS central bankers’ speeches  can have severe ripple effects further ahead, with a substantial impact on output and employment. Many Americans and Europeans have recently experienced this, as Norwegians did 20 years ago.