Monetary History of Denmark - 1990-2005 Colophon, Contents and Foreword MONETARY HISTORY OF DENMARK 1990-2005 By KIM ABILDGREN with an introductory chapter by BODIL NYBOE ANDERSEN and JENS THOMSEN DANMARKS NATIONALBANK 2010 Monetary History of Denmark - 1990-2005 Colophon, Contents and Foreword MONETARY HISTORY OF DENMARK 1990-2005 October 2010 The following volumes are available in the serie Monetary History of Denmark: Volume 1: Monetary History of Denmark 1700-1914 by Knud Erik Svendsen and Svend Aage Hansen. Volume 2: Monetary History of Denmark 1914-1960 by Erling Olsen and Erik Hoffmeyer. Volume 3: Monetary History of Denmark 1700-1960. Annex by Kirsten Mordhorst. Volume 4: Monetary History of Denmark 1960-1990 by Richard Mikkelsen. Volume 5: Monetary Policy Issues 1965-1990 by Erik Hoffmeyer in collaboration with Kai Aaen Hansen. Volume 6: Monetary History of Denmark 1990-2005 by Kim Abildgren with an introductory chapter by Bodil Nyboe Andersen and Jens Thomsen. Volumes 1-5 are available in Danish only. Volume 6 is available in Danish and English. Explanation of symbols: - Magnitude nil 0 Less than one half of the unit employed • Category not applicable … Data not available Text may be copied from this publication provided that the source is specifically stated. Changes to or misrepresentation of the content are not permitted. Based on information available up to early October 2010. Printed by: Rosendahls/Schultz Grafisk A/S ISBN: 978-87-87251-84-6 ISBN (Online): 978-87-87251-86-0 Monetary History of Denmark - 1990-2005 Colophon, Contents and Foreword Contents Foreword ........................................................................................... 5 Introduction ....................................................................................... 7 Chapter 1: Exchange-Rate Cooperation and Currency Crises – Part I: the Krone in the D-Mark Block ............................ 27 Chapter 2: Exchange-Rate Cooperation and Currency Crises – Part II: the Krone outside the Euro Area........................ 55 Chapter 3: Monetary-Policy Instruments and the Money Market ... 83 Chapter 4: Development in the Financial Sector – Structure and Regulation ...................................................................... 111 Chapter 5: Banking Crises 1984-95 ................................................... 157 Chapter 6: The Financial Stability Efforts of Central Banks ............. 183 Chapter 7: Economic and Monetary Union in the EU, EMU............. 193 Chapter 8: Denmark and EMU ......................................................... 213 Chapter 9: The International Monetary Fund, IMF .......................... 225 Supplement A: Payment Systems and the Financial Infrastructure ... 241 Supplement B: Government Debt Management............................... 263 Supplement C: Danmarks Nationalbank's Production of Statistics ... 279 Supplement D: Danmarks Nationalbank's Financial Performance and Information Activities......................................... 285 Monetary History of Denmark - 1990-2005 Colophon, Contents and Foreword Monetary History of Denmark - 1990-2005 Colophon, Contents and Foreword 5 Foreword Working in collaboration with former Governor of Danmarks Nationalbank Bodil Nyboe Andersen and Governor Jens Thomsen, Kim Abildgren, Head of Division, has prepared this Monetary History of Denmark 1990-2005. The authors have met regularly since the autumn of 2007 to discuss the topics and chapters of the book. In the autumn of 2009 and the spring of 2010 fruitful seminars were held with the participation of Jesper Berg, Anders Møller Christensen, Hugo Frey Jensen, Kai Aaen Hansen and Frank Nielsen, all of whom held key positions at Danmarks Nationalbank in the period 1990-2005. Furthermore, Torsten Gersfelt, Peter Birch Sørensen and Ole Zacchi have provided valuable input. Finally, a number of employees have made significant contributions by procuring material from archives and libraries or by checking the content of the book. As indicated in the title, this volume of Monetary History of Denmark relates to the period 1990-2005, thereby supplementing earlier volumes, which cover the years up to 1990. For the sake of completeness, reflections on the years before 1990 have been included from time to time. Whenever possible, tables and charts include data for the years after 2005 to enhance their utility value. Other factual information for the period after 2005 has also been included in a few cases, but no analysis or detailed description of this period has been provided. On behalf of the Committee of Directors and the Board of Directors of Danmarks Nationalbank I welcome this sixth volume in the Monetary History of Denmark series. I hope that this new volume will serve as part of the foundation for future assessments of developments in monetary and exchange-rate policy in the period 1990-2005. Søren Bjerre-Nielsen Chairman of the Committee of Directors and of the Board of Directors of Danmarks Nationalbank Monetary History of Denmark - 1990-2005 Introduction 7 Introduction Developments in the late 1980s have had a significant impact on the framework conditions for economic policy – especially monetary policy. The "stability-oriented economic policy" of the 1990s was only pos- sible because of the austerity measures introduced in the 1980s to bring the economy back on course and control domestic demand and the bal- ance of payments. Back in the early 1980s, the economy was characterised by high un- employment at around 10 per cent, double-digit inflation rates and a massive government budget deficit. As a result, long-term bond yields exceeded 20 per cent, and real interest rates were in the double-digit range. Denmark's exchange-rate policy was based on the "currency snake" and from 1979 ERM with "fixed – but adjustable – exchange rates". But in reality Denmark took any opportunity to devalue the krone. In the late 1970s, the serious Danish current-account problems were becoming an issue not only in Denmark, but also internationally. The outgoing Minister for Finance said on TV that he had seen the economic abyss looming. He defined this as a situation in which Denmark's eco- nomic policy was, directly or indirectly, dictated from abroad. The possi- bility of a national bankruptcy surfaced in the public debate, and gov- ernment bond yields rose, but of course the competent authorities im- mediately ruled out that possibility. In short, there was a strong awareness of the crisis, and concerns about Denmark's international reputation began to be a political theme. This crisis awareness paved the way for a number of economic reforms in the 1980s. A key reform was the decision in 1982 to stop devaluing the krone. Danmarks Nationalbank was strongly in favour of this change, and with the formation of a new government in 1982 the opportunity arose to chart a new political course. This was a significant structural reform, and since then the fixed-exchange-rate policy has been a cornerstone of Denmark's economic policy. In subsequent realignments within ERM, the value of the krone was maintained relative to the average, which meant minor devaluations vis- à-vis the D-mark. The last adjustment took place in 1987, resulting in the exchange rate against the D-mark that remained in place for the next Monetary History of Denmark - 1990-2005 Introduction 8 decade and was converted into the central rate between the krone and the euro at end-1998. The transition to the fixed-exchange-rate policy in 1982 was seen as a very firm approach in view of Sweden's considerable devaluation at the same time. It was also followed up by fiscal tightening and suspension of wage indexation. This "package" helped to create positive expectations, and interest rates soon dropped significantly. However, the fall in interest rates was so sharp that demand soared, and by the mid-1980s the current account showed an alarmingly large deficit. Further fiscal tightening was required. The structural reforms imple- mented to curb demand by making borrowing less attractive were of major significance. The general public will undoubtedly remember the austerity measures known as the "potato diet", but the key measure was an extensive tax reform that significantly reduced the value of the tax deductibility of interest with effect from 1987. The tax reform was a positive step towards stabilisation, but caused problems in relation to mortgage credit, and in the latter half of the 1980s both the housing market and the construction sector were hit by a crisis, reflected in enforced sales and bankruptcies. Developments in the 1980s would probably have been more stable if the tax reform had been implemented 2-3 years earlier. The crisis amplified the consolidation trend in the financial sector that had characterised the 1980s, and during that decade Danmarks Nationalbank became involved in the efforts to find solutions for banks in financial distress. Nevertheless, the economic policy of the 1980s is seen as an example of major structural reforms that were successful. This period laid the foundation for what has subsequently come to be known as "the stability-oriented economic policy". This policy had a strong impact on developments in the 1990s. Framework conditions for Danish economic policy also changed ma- terially in another area in the 1980s, as the last restrictions on capital movements between Denmark and abroad were lifted on 1 October 1988. Capital movements had gradually been liberalised since the 1960s, and especially in the 1980s the EC pushed