FxWirePro: Crude oil driving EUR/NOK’s trend

While oil prices will dictate the short term moves in NOK, the longer term NOK outlook will depend on the lasting effects of lower oil prices to domestic drivers. The depreciation in NOK in H2 2014 has underpinned inflation, but slower growth and lower domestic demand will drag prices lower once the FX effect starts to wane.

Providing support to domestic growth though is Norway's fiscal rule and the translational effect of a weaker NOK on Norway's sovereign oil fund, GPFG, that act as an automatic stabilizer. We can observe from the diagram how this currency cross is directly proportional to the oil prices.

This FX translational effect would have increased the government's fiscal scope by NOK 30bn in 2014, i.e., about 1% of mainland GDP-sums which the government can use to prop up the economy. As such, we are cautiously constructive on NOK and believe EUR/NOK can drift lower once oil prices are able to find a stable floor.

Hence, only a material recovery in oil prices is likely to stop those cutting rates to new historic lows. While this risk overhangs, we maintain a negative stance on the currency, with EUR/NOK expected to retest the recent highs around 9.60.