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"Report and Accounts 2000"

Monetary and Exchange-Rate Policy

The fixed-exchange-rate policy remains unchanged after Denmark's rejection of the euro by referendum on 28 September 2000.

The policy entails that Danmarks Nationalbank's interest rates are fixed in accordance with the interest rates of the European Central Bank, ECB, and the conditions in the foreign-exchange market. In 2000 Danmarks Nationalbank raised its interest rates on several occasions following interest-rate increases by the ECB. It was also necessary to widen the differential between the official interest rates of the Nationalbank and the ECB since there was some outflow of foreign exchange and underlying trends for the krone to weaken in considerable periods of the year. In the time up to the referendum short-term market interest rates rose significantly, but with no real foreign-exchange unrest. The large net purchases of foreign securities by resident investors contributed to the krone's weakening in certain periods of 2000. Even though the foreign-exchange market generally absorbed these considerable capital flows without significant problems, the Nationalbank had to sell foreign exchange for a net amount of kr. 38 billion in 2000, in order to dampen the fluctuations in the krone rate.

Unchanged fixed-exchange-rate policy after the euro referendum

The objective of Denmark's fixed-exchange-rate policy is to keep the krone stable against the euro. In view of the primary objective of monetary policy in the euro area to maintain price stability the linking of the krone to the euro creates a framework for price stability in Denmark.

The formal framework for Denmark's fixed-exchange-rate policy is its participation in the exchange-rate mechanism, ERM II. The purpose of ERM II is to ensure stable exchange rates between the euro area and the EU member states which have not introduced the single currency. Denmark participates in ERM II with a central rate of kr. 746.038 per 100 euro and a fluctuation band of +/- 2.25 per cent. In recent years the Nationalbank has maintained a stable krone rate close to the central rate. Underlying trends for the krone to fluctuate are dampened by buying or selling foreign exchange, or by adjusting interest rates.

The fixed-exchange-rate policy is unchanged after Denmark's rejection of the euro by referendum on 28 September 2000. This was confirmed by the Danish Government and the Nationalbank in a joint press release after the referendum. In its opening statement to the Folketing (Parliament) on 3 October 2000 the government emphasised that it will not hesitate to tighten fiscal policy in order to sustain the fixed-exchange-rate policy.

The fixed-exchange-rate policy entails a clear dividing line between monetary and fiscal policy in Denmark. Monetary policy is designed to support the fixed-exchange-rate policy. In practice, this means that the Nationalbank's interest rates are fixed in accordance with the ECB's interest rates and conditions in the foreign-exchange market. It is the task of fiscal policy and other economic policy to ensure a balanced economic course and price stability in line with the ECB's objective, and thereby support the fixed-exchange-rate policy.

Interest and exchange rates in Denmark

At the beginning of 2000 the discount rate and the Nationalbank's current-account rate were 3 per cent, while the interest rate for certificates of deposit and the Nationalbank's lending rate were 3.30 per cent, cf. Chart 9.^[1] The spread between the lending rate and the ECB's main refinancing rate was 0.30 per cent, while the differential between 3-month money market interest rates in Denmark and the euro area was 0.35-0.40 per cent, cf. Chart 10.

Chart 9 Official interest rates and 3-month money-market interest rate in Denmark

Chart 10 Interest-rate differential to the euro area

The Nationalbank closely matches the ECB's interest-rate adjustments. On three occasions, with effect from 4 February, 17 March and 28 April, the discount rate was raised by a total of 0.75 per cent to 3.75 per cent after equivalent interest-rate increases by the ECB. With effect from 4 February the lending rate was raised by 0.30 per cent.

On the other two occasions the lending rate was raised by 0.25 per cent to a total of 4.10 per cent. In these months the krone continued its slight weakening against the euro which began in the 2nd half of 1999, cf. Chart 11. One factor behind the underlying tendency for the krone to weaken in this period was considerable portfolio restructuring in favour of foreign securities by major Danish investors. In January and February 2000 the Nationalbank sold foreign exchange for approximately kr. 19 billion, in order to dampen the fluctuations in the krone rate. However, from March to May the outflow of foreign exchange was subdued, and the differential between money-market interest rates in Denmark and the euro area was relatively stable for the entire period.

Chart 11 The krone rate and the Nationalbank's net purchase of foreign exchange

With effect from 9 June the Nationalbank raised the discount rate by 0.5 per cent to 4.25 per cent after the ECB raised its interest rates. The lending rate was raised by 0.60 per cent to 4.70 per cent, which widened the spread to the ECB's main refinancing rate by 0.10 per cent to 0.45 per cent. The widening was due to a considerable outflow of foreign exchange at the end of May and beginning of June when the krone weakened to below the central rate after several opinion polls had shown that support for Denmark's joining the euro was diminishing. This decline in support for the euro contributed to widening the differential between money-market interest rates in Denmark and the euro area. From the beginning of June to mid-July the differential widened by almost 1 per cent to just below 1.4 per cent. However, part of this widening was reversed in the period from mid-July to the end of August.

The Nationalbank's monetary policy in the summer of 2000 was complicated by the ECB's adoption at the end of June of a variable-rate tender procedure for allotment of liquidity in the main refinancing operations, instead of a fixed-rate tender procedure. The ECB's new tender procedures meant that the Nationalbank had to adapt its practice for adjustments of interest rates in response to the ECB's interest-rate adjustments. In stable foreign-exchange conditions, the discount rate will now be adjusted in accordance with the ECB's minimum bid rate, while the lending rate will be adjusted on the basis of the marginal interest rate for the ECB's main refinancing operations. Minor fluctuations in the marginal interest rate will not normally entail adjustments of the lending rate, but will instead lead to minor fluctuations in the interest-rate differential. For a period after the ECB's adoption of the variable-rate tender procedure the Nationalbank as an extraordinary measure announced adjustments of the lending rate in press releases. The purpose was to emphasise that the adjustments were due solely to fluctuations in the marginal interest rate, and not to any change in conditions on the foreign-exchange market. Since then, the Nationalbank has resumed its normal practice of only issuing press releases if the discount rate is adjusted^[2].

In the period from 23 August to 27 September the Nationalbank adjusted the lending rate on several occasions as a consequence of fluctuations in the marginal interest rate for the ECB's main refinancing operations, cf. Table 3. In addition, the discount rate was raised by 0.25 per cent to 4.50 per cent with effect from 1 September after an equivalent raising of the ECB's minimum bid rate.

Table 3 Changes in the lending rate from 23 august to 27 september 2000

Per cent	Changes	Lending rate	ECB's marginal interest rate	Interest-rate differential
23 August	+0.2	4.90	4.47	0.43
30 August	+0.2	5.10	4.68	0.42
6 September	-0.1	5.00	4.55	0.45
27 September	+0.1	5.10	4.65	0.45

Note:

The ECB raised the minimum bid rate by 0.25 per cent from 4.25 per cent to 4.50 per cent with effect from 1 September. The marginal interest rate is fixed at the weekly tenders.

In the period just before the referendum the krone weakened again to below the central rate, but with no actual foreign-exchange unrest. For a short period the differential between money-market interest rates in Denmark and the euro area widened to just above 2 per cent, and the spread between the 3-month money-market interest rate in Denmark and the Nationalbank's lending rate widened to almost 2 per cent. The money market's reaction reflected the market participants' expectations of interest-rate increases in response to pressure on the krone rate. Although the short-term market rates began to fall in the 2nd half of September, the 3-month interest rate remained significantly higher than the Nationalbank's interest rates. In September the Nationalbank sold foreign exchange for approximately kr. 11 billion in order to dampen the fluctuations in the krone.

After the referendum the Nationalbank raised the lending rate by 0.50 per cent to 5.60 with effect from 29 September. As a result the interest-rate differential to the marginal interest rate for the ECB's main refinancing operations widened to 0.95 per cent. The purpose of the raising of interest rates was to prevent uncertainty concerning the krone after the referendum. During the following period the krone strengthened against the euro, and the outflow of foreign exchange was reversed to an inflow as the Nationalbank purchased foreign exchange for almost kr. 17 billion in October. Furthermore, interest-rate conditions in the Danish money market returned to normal and the spread between money-market interest rates in Denmark and the euro area narrowed to the level of the beginning of the year.

With effect from 6 October the Nationalbank raised the discount rate by 0.25 per cent to 4.75 per cent after an equivalent raising of the ECB's minimum bid rate. The lending rate was maintained unchanged in view of the krone's strengthening. As the marginal interest rate for the ECB's main refinancing operations at the same time rose by almost 0.10 per cent the spread between the Nationalbank's lending rate and the marginal interest rate narrowed to approximately 0.85 per cent.

From 13 October 2000 up to the end of February 2001 the Nationalbank gradually lowered the lending rate by a total of 0.30 per cent, cf. Table 4. As the marginal interest rate for the ECB's main refinancing operations was stable in that period, the interest-rate differential narrowed to approximately 0.55 per cent, i.e. approximately 0.25 per cent above the level of the beginning of 2000.

Table 4 Changes in the lending rate from 29 September 2000 toend-February 2001

Per cent	Changes	Lending rate	ECB's marginal interest rate	Interest-rate differential
29 September 2000	+0.5	5.60	4.65	0.95
13 October 2000	-0.1	5.50	4.76	0.74
27 October 2000	-0.1	5.40	4.80	0.60
9 February 2001	-0.1	5.30	4.75	0.55

Note:

The ECB raised the minimum bid rate by 0.25 per cent from 4.50 per cent to 4.75 per cent with effect from 1 September. The marginal interest rate is fixed at the weekly tenders.

Around the turn of the year 2000/2001 the krone rate moved to slightly below the central rate, and the differential between 3-month money market interest rates in Denmark and the euro area widened slightly to 0.50-0.60 per cent. The small underlying trend for the krone to weaken at the beginning of 2001 was partly due to Danish investors' purchases of foreign securities. However, the outflow of foreign exchange was significantly less than in the first months of 2000.

The banks' interest rates
The banks' average lending and deposit rates have matched the development in the Nationalbank's discount rate, cf. Chart 12. From the 4th quarter of 1999 to the 3rd quarter of 2000 the lending and deposit rates rose by respectively 1.2 per cent and 1.0 per cent. Interest-rate statistics for the 4th quarter of 2000 have not yet been released. The interest margin has increased slightly since the 1st quarter of 1999, after declining in the preceding years.

Chart 12 The banks' lending and deposit rates

Capital flows and the foreign-exchange reserve

The surplus on the current account of the balance of payments is estimated to have been around kr. 19 billion in 2000, cf. Table 5. Private capital flows led to net capital exports of an estimated kr. 57 billion. In 2000 the Nationalbank had to sell foreign exchange for kr. 37.7 billion, which could be attributed partly to the considerable net capital exports. In 2000 the central government repaid foreign loans for kr. 5.2 billion. The foreign-exchange reserve excluding value adjustments decreased by kr. 43.0 billion, cf. Chart 13.

Table 5 Capital flows

Net receipts, kr. billion	1999	2000
Current account of the balance of payments	21	19
Capital transfers	7	0
Capital inflows:
Direct investments	-8	52
Portfolio investments1	-24	-153
Of which foreign securities	-68	-191
Financial derivatives	2	6
Lending and deposits2	87	68
Estimate of unrecorded commercial credits3	-12	17
Errors and omissions	-10	-46
The Nationalbank's net purchase of foreign exchange	63	-38
Used as follows:
To reduce the central government's external debt	-1	5
To increase the foreign-exchange reserve	64	-43

Note:	Excluding value adjustments, etc.
1	Excluding the central government's foreign bond issues.
2	Excluding the central government's foreign bank loans.
3	Compensation for the hurricane in December 1999 is included as capital outflows in 1999 and as capital inflows in 2000.

Chart 13 The foreign-exchange reserve

Portfolio investments in 2000 resulted in net capital exports of kr. 153 billion. For the year as a whole net purchases of foreign securities by residents amounted to kr. 191 billion, of which equity securities accounted for kr. 110 billion. In 2000 non-residents' net purchases of Danish securities (krone-denominated bonds, bonds denominated in foreign exchange and Danish equity securities) totalled kr. 32 billion. The merger of Unidanmark and the Finnish/Swedish MeritaNordbanken^[3] group accounts for kr. 30.9 billion of residents' net purchases of foreign securities.

In recent years residents' net purchases of foreign securities have increased strongly. The increase in net purchases of foreign securities in 2000 can be attributed to such factors as extensive portfolio restructuring in favour of foreign securities by Danish institutional investors. In the foreign-exchange market investors' net purchases of foreign securities will normally increase the demand for foreign exchange and the supply of Danish kroner. The considerable net purchases of foreign securities have thus contributed to the underlying tendency for the krone to weaken in considerable periods of 2000.

The liquidity of the banks and mortgage-credit institutes

The Nationalbank's monetary-policy counterparties are banks and mortgage-credit institutes in Denmark. The net position of the monetary-policy counterparties, i.e. their net claims on the Nationalbank, is influenced by various factors. Viewed over a longer period the Nationalbank's net purchases of foreign exchange are the main factor contributing to changes in the net position. When the Nationalbank purchases foreign exchange and sells kroner, viewed in isolation the net position is increased, and vice versa. The considerable net sales of foreign exchange by the Nationalbank up to and including September 2000 led to a gradual decrease in the net position, cf. Chart 14. The Nationalbank's extensive purchases of foreign exchange in October brought this decline to an end, and during the last months of the year the net position rose a little.

Chart 14 Accounts of the banks and mortgage-credit institutes with the Nationalbank

Central-government receipts and disbursements
For the year as a whole, the central government's domestic krone- denominated borrowing covers the gross domestic financing requirement, i.e. the central government's current deficit and redemptions of the domestic debt. Within the same year, however, central-government receipts and disbursements may entail major fluctuations in the net position. The Nationalbank prepares monthly and daily forecasts of central-government receipts and disbursements. These forecasts are used by the monetary-policy counterparties in the management of their own liquidity, and by the Nationalbank as an element of the management of overall liquidity. The forecasts are prepared on the basis of the budget reviews of the Ministry of Finance and the Nationalbank's knowledge of central-government receipts and disbursements.

For a number of years the Nationalbank and private banks have handled various types of central-government receipts and disbursements, e.g. payments between the central government and local governments, tax payments and disbursements of social benefits. However, in 1999 the Ministry of Finance decided to gather all central-government receipts and disbursements in one system, SKB (Statens KoncernBetalingssystem). After a public procurement procedure the design of the system was awarded to Jyske Bank, and the system is now being established. After the introduction of SKB the central government's liquidity will still be held in an account with the Nationalbank. The gathering of central-government receipts and disbursement in one system is expected to improve the basis for the Nationalbank's forecasts of central-government receipts and disbursements.

The monetary-policy instruments

The Nationalbank's monetary-policy counterparties have access to place liquidity as overnight deposits (current-account deposits) with the Nationalbank and to participate in the Nationalbank's weekly market operations. Via the weekly market operations the counterparties may raise 14-day loans against collateral (the Nationalbank supplies liquidity) and/or place funds by purchasing 14-day certificates of deposit (the Nationalbank absorbs liquidity). The rate of interest for these instruments is a central element of monetary policy. Current-account deposits with the Nationalbank accrue interest at the current-account rate, which is identical to the discount rate. The Nationalbank's 14-day loans and certificates of deposit are subject to the lending rate and the rate of interest for certificates of deposit, respectively. These are also identical and higher than the discount rate.

The net position of the monetary-policy counterparties consists of their holdings of certificates of deposit and current-account deposits, less their 14-day loans from the Nationalbank. In the weekly market operations the monetary-policy counterparties will normally ensure a net position whereby the total current-account deposit covers the expected liquidity requirement in the coming week. In the event of major known fluctuations in the liquidity requirement, e.g. in the light of major central-government receipts or disbursements, the Nationalbank may pre-announce its intention to repurchase or sell certificates of deposit outside the weekly market operations. Furthermore, the Nationalbank may also provide access for repurchase or sale of certificates of deposit without pre-announcement in the event of major unforeseen fluctuations in the liquidity requirement.

Since 2000 the current-account deposits with the Nationalbank of monetary-policy counterparties have been subject to certain limits^[4]. The limits are intended to prevent the accumulation of large current-account deposits which might be used for speculation in changes in interest rates and/or exchange rates. The total limit for current accounts is almost kr. 20 billion. If the total limit for all counterparties taken as one is exceeded the current-account deposits exceeding the individual limits will be converted to certificates of deposit. For a certain period around the referendum the current-account deposits of the monetary-policy counterparties were close to the overall ceiling, but it has still not been necessary to convert current- account deposits to certificates of deposit. Towards the end of the year the Nationalbank made a minor adjustment to the individual current-account limits in view of the development in the financial sector and the counterparties' utilisation of the current-account limits. The overall ceiling for current accounts remained unchanged. The revised current-account limits have been in force since 1 January 2001 and are listed at www.nationalbanken.dk under Monetary policy.

Footnotes

[1] The rate of interest on the monetary-policy counterparties' current accounts corresponds to the discount rate, and the rate of interest for certificates of deposit corresponds to the lending rate, which is higher than the discount rate.

[2] Adjustments of the rate of interest for certificates of deposit and the lending rate are announced via the Nationalbank's electronic information system. See also the Nationalbank's interest rates on www.nationalbanken.dk under Markets.

[3] The merger is also registered in the statistics as a direct investment in Denmark (capital imports) of kr. 42.5 billion, and a repurchase of Danish shares for kr. 11.5 billion (capital exports under portfolio investments). Excluding the merger between Unidanmark and MeritaNordbanken the year's net capital imports from direct investments amounted to kr. 10 billion.

[4] The limits were introduced in June 1999 in connection with a number of mainly technical adjustments to the range of monetary-policy instruments. These adjustments are described in the Monetary Review, 2nd Quarter 1999, p. 15.

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Version 1.0 March 2001 Nationalbanken.
Published by Danmarks Nationalbank March 2001, http://www.nationalbanken.dk