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September 04, 2008

Sweden's Riksbank Hikes One More Time
by Victoria Marklew

With the economy slowing rapidly but headline inflation well above the upper limit of the central bank's target in recent months, it was a close call whether Sweden's Riksbank (the central bank) would raise its repo rate again this month. In the event, the bank opted for one more bout of tightening, taking the rate up 25bps to 4.75%, while also making it clear that this is likely to be the last rate hike for this cycle.

The Riksbank targets headline inflation of 2.0% over a two-year forecast horizon, and has now raised its repo rate a total of thirteen times since early 2006. The bank said this morning that this final move was needed to prevent the high inflation of recent months from becoming entrenched - but in the next breath said that lower prices of oil and other commodities, along with weaker growth forecasts for Sweden and overseas, warrant a looser policy going forward than previously forecast. Back in July, the central bank had anticipated a quarterly-average repo rate of 4.8% in Q4 2008, rising to 4.9% in Q3 2009. Today's projection foresees an average Q4 rate of 4.7%, easing to 4.6% in July-September 2009. In other words, the next policy shift is likely to be a rate cut sometime after the middle of next year.

Chart 1

Headline inflation hit an annual 4.4% in July, its highest level in nearly 15 years, but may have peaked. The August reading of household inflation expectations from the National Institute of Economic Research (NIER) - reportedly closely watched by the Riksbank - came down nearly one full percentage point to 2.9%.

Meanwhile, the economy does show every indication of a rapid cooling. Real GDP growth was essentially flat on the quarter in Q2 and rose just 1.0% y-o-y - its weakest showing since 2001. This morning, the Riksbank slashed its growth forecasts, anticipating real GDP of 1.4% this year and 0.8% in 2009, down from the July forecasts of 2.1% and 1.2%, respectively. This is even gloomier than the NIER, which last month lowered its growth forecast for this year to 1.7% (previously 2.4%) and for 2009 to 1.4% (previously 2.0%). The NIER noted "a rapid economic slowdown in the OECD area, which receives 80% of Swedish exports" as well as lower domestic demand.

Chart 2

Last week, the NIER reported that its index of economic sentiment fell to 85.5 points in August from 88.5 in July. The consumer confidence index remained well into negative territory at a seasonally-adjusted -19.6 (-18.4 in July) and the manufacturing confidence index slid further downward, to -12 (-10 in July).

Earlier this week came the news that the Sif-Swedbank purchasing managers' index dropped further below the growth-contraction mark of 50.0 in August, coming in at a seasonally-adjusted 46.4 (48.6 in July), as production, orders, and employment all fell. The weak PMI report makes it highly likely that the NIER manufacturing confidence indicator for September will decline yet again.

Victoria Marklew
The Northern Trust Company
Economic Research Department
"The economics of what is, rather than what you might like it to be."
50 South LaSalle Street, Chicago, Illinois 60675

The opinions expressed herein are those of the author and do not necessarily represent the views of The Northern Trust Company. The Northern Trust Company does not warrant the accuracy or completeness of information contained herein, such information is subject to change and is not intended to influence your investment decisions.

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