Swedish QE Bets Mount as Price Fight Tests Standard Weapons

By Johan Carlstrom

Photographer: Pete Marovich/Bloomberg

Stefan Ingves, governor of Sweden's central bank.

Sweden’s central bank may be forced to resort to unconventional measures, including quantitative easing, as the next step in a battle to drive inflation closer to its target.
After almost three years of below-target inflation and even bouts of deflation, the bank is under pressure to do more to comply with its price mandate. Failure to bring inflation to target has triggered public criticism from former board members, and even Nobel LaureatePaul Krugman has faulted the bank.
“We’re not ruling out anything,” said Anna Fellander, chief economist at Swedbank AB, Sweden’s biggest mortgage lender. “The Riksbank wants to
signal that it wants to entirely focus on inflation.”
Since the bank in July surprised analysts by cutting its main rate by half a point to 0.25 percent, there has been just one inflation report. That showed consumer price growth slowed to 0.04 percent from 0.2 percent. The bank targets 2 percent. GovernorStefan Ingves has argued monetary policy also needs to take Sweden’s record debt burden into account, limiting the scope to cut rates. Yet other board members have signaled they’re willing to do more to revive consumer price growth.

Election Focus

“We’re not excluding the possibility that the Riksbank implements quantitative easing if inflation slows and inflation expectations continue to stay low,” Fellander said.
The bank’s six-member board meets today to discuss rates and will announce its decision tomorrow. All 15 economists surveyed by Bloomberg see the bank leaving the benchmark repo rate unchanged.
The Riksbank’s plight has made it a focus of Sweden’s election campaign, with the Social Democrat-led opposition arguing for a review of monetary policy. The bloc, which polls show will win the Sept. 14 election, says the bank should focus more on the labor market. Swedish unemployment was 7.1 percent in July, Scandinavia’s highest rate.
Both the government and Social Democrats this week said they will tighten fiscal policy to reach a 1 percent budget surplus target in 2018. They have also signaled they may introduce a mortgage amortization requirement after surging Swedish home prices have sent private debt to a record.

‘Must Act’

“Monetary policy is facing a situation where fiscal policy and regulation policy is net tightening and that’s the last thing that the economy needs at this juncture,” said Par Magnusson, chief economist at Royal Bank of Scotland Plc in Stockholm. “So the Riksbank must act.”
According to Magnusson, options include rate cuts, long-term refinancing operations, quantitative easing and a currency floor. Any move won’t happen until December at the earliest once elections are over and the government reveals more about its intentions to stem private debt, he said. Another rate cut by the European Central Bank this autumn to 0.05 percent from 0.15 percent will also increase pressure, Magnusson said.
Swedish consumer prices will fall 0.1 percent this year and won’t reach the 2 percent target until December next year, the Riksbank forecast at in July. Traders’ two-year inflation expectations fell to 1.5 percent last month while a survey from the National Institute for Economic Research showed consumers’ one-year inflation expectations fell to 0.2 percent in August from 0.7 percent in July.

Krona Losses

Swedbank predicts the Riksbank will cut rates to 0.1 percent in December and sees no rate increase until early 2016. SEB AB, the biggest trader in kronor, forecasts a cut to 0.15 percent already next month and also sees the central bank on hold until 2016.
The krona is the worst performing G-10 currency this year as traders and investors speculate the Riksbank will need to do more to fight the risk of deflation.
“The Riksbank has become much more short-sighted, more krona-focused and the majority of the board has the vote,” said Robert Bergqvist, chief economist at SEB and a former Riksbank analyst. A 0.1 percentage point cut “must be complemented by strengthened guidance when it comes to the repo rate and we therefore think they will condition the first rate increase on that underlying inflation must accelerate to more than 1.5 percent.”
Deputy Governor Per Jansson, who joined a majority of four in July to push through the half point cut in a move that overruled Ingves, already has said he won’t back a rate rise until underlying inflation hits 1.5 percent. Inflation by that measure was 0.6 percent in July.

ECB Meeting

The ECB, whose Governing Council meets this week, may start buying asset-backed securities as part of a quantitative-easing program to shore up a euro-area economy that’s edging closer to deflation. The economy of Germany, Europe’s largest, contracted in the second quarter partly on concerns over the effect of Russian sanctions.
Sweden’s government cut its growth forecast for a second time in two months in August, citing waning momentum in Europe.
The Riksbank is “afraid of what’s happening in Europe and what’s happening also at the ECB, that inflation expectations are continuing to fall,” Bergqvist said. “The focus of the Riksbank, and also party for the ECB, is to make sure that inflation expectations don’t fall further and that the krona doesn’t start to strengthen.”
The Riksbank will stop short of quantitative easing since Sweden has no liquidity problems, its credit market is functioning well and consumer rates are already low, Bergqvist said.