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OSLO, Feb 10 (Reuters) - Inflation in Norway was much lower than expected in January, according to data on Friday that caused the crown to weaken against the euro on increased expectations that the central bank may need to cut interest rates.
The key number, core inflation year-on-year - adjusted for taxes and energy prices - was 2.1 percent in January, against expectations for 2.6 percent in a Reuters poll, and down from 2.5 percent in December.
Norway's central bank, Norges Bank, which had forecast a reading of 2.9 percent, has a long-term inflation target of 2.5 percent. Other measures of Norwegian inflation were also weaker than expected.
"This makes it very difficult for the central bank," said brokerage DNB Markets in a note. "With low inflation but still strong growth in house prices, this increases the danger for financial imbalances.
"The probability that Norges Bank will have to cut rates in March has definitely increased after today's numbers."
The key policy rate was kept steady at 0.5 percent at the last rate meeting on Dec. 15, when the bank repeated that it expected it to stay at this level "in the period ahead". The next rate meeting is on March 16.
The Norwegian crown dropped against the euro immediately on the news. It was trading at 8.9080 at 0723 GMT against 8.8870 just before the data was published.
"The deviation from Norges Bank's forecast is now starting to become very large. Normally, such a discrepancy would pull down the interest rate path significantly, but it is difficult to say now, because they (the bank) are very concerned about housing prices," said Halfdan Grangaard, a senior economist at Handelsbanken.
"So far we have not changed our expectation of unchanged rates, but there is a downside risk, and it is clearly been reinforced by today's figures."
The fall in core inflation was due mostly to lower prices for clothes and furniture, Statistics Norway said in a statement.
Others disagreed. "We don't think it brings Norges Bank back in a mode for cutting rates," said Nordea Markets. "The main focus is on the housing market and the underlying macroeconomic development in the economy." (Reporting by Gwladys Fouche and Camilla Knudsen; Editing by Catherine Evans)