Thursday, July 3, 2014

Sweden slashes rate 50 bps on lower inflation forecast

    Sweden's central bank slashed its benchmark repo rate by a larger-than-expected 50 basis points to 0.25 percent as it cut its forecast for inflation and said it didn't expect any increase in the interest rate until the end of 2015.
    Sveriges Riksbank, which last cut its rate by 25 basis points in December but has seen consumer prices fall for the last five months, cut its inflation forecast for 2014 to minus 0.1 percent from its previous forecast in April of 0.2 percent.
    In 2015 consumer price inflation is forecast to rise to 1.3 percent from a previous forecast of 2.2 percent and in 2016 inflation is forecast to accelerate to 3.0 percent from a previous 3.2 percent.
    The Riksbank, which targets inflation of 2.0 percent, also lowered its projections for the repo rate to average 0.5 percent this year, down from April's forecast of 0.7 percent, the 2015 forecast to 0.3 percent from a previous 1.1 percent, and the 2016 forecast to 1.3 percent from 2.3 percent, with the average forecast for the third quarter of 2016 seen at 1.45 percent, up from 0.25 percent in the third quarter of 2015. By the third quarter of 2017 the rate is seen at 2.35 percent.
    The Riksbank's executive board decided on the sharp rate cut against the votes of Governor Stefan Ingves and First Deputy Governor Kerstin of Jochnick, both of whom voted for a 25 basis point cut.
    "The low interest rates are already contributing to a relatively rapid increase in household debt as a percentage of household income. An even lower repo rate will strengthen this tendency, thus increasing the risk of the economy developing in an unstable way in the long run," the Riksbank said in its statement.
   The lower repo rate "makes it more urgent for other policy areas to manage the risks linked to household indebtedness and to developments in the housing market," the central bank said, calling for measures that directly reduce households' demand for credit and not just measures that strengthen the resilience of the banking system.
   The central bank's forecast for Swedish economic growth was also lowered for this year, but slightly raised in coming years. Gross Domestic Product is forecast to expand by 2.2 percent this year, up from 2013's 1.6 percent, but down from April's forecast of 2.7 percent.
    In 2015 GDP is seen rising by 3.3 percent, up from a previous forecast of 3.2 percent, and in 2016 by 3.1 percent, up from 2.8 percent.
    The sharp rate cut by the Riksbank comes against the backdrop of a debate in Sweden over the threat of deflation and the central bank's failure to meet its inflation target for more than two years.
    Consumer prices fell by 0.2 percent in May and have been negative or zero in seven of the last 12 months.
    Sweden's Social Democrats, expected to head the government after elections in September, has said the Riksbank has failed to fulfill its inflation mandate and called on an independent body to review monetary policy.
    The Riksbank has been hesitant to cut rates in recent years for fear of encouraging a further build up in mortgage debt by consumers, already at 370 percent of disposable income, and boosting property prices further.
    Last month the Swedish parliament appointed former Bank of England Governor Mervyn King and Marvin Goodfriend, former U.S. Federal Reserve official, to review the Riksbank's policy from 2010.
    Reflecting declining inflation and the growing odds of Riksbank rate cuts, the Swedish krona currency has been falling since mid-March and fell further on today's cut, falling to 6.83 to the U.S. dollar from 6.71 yesterday. Since the start of the year, the krona has dropped 5.7 percent.
    Sweden's GDP contracted by 0.1 percent in the first quarter of this year for annual growth of 1.9 percent, down from 3.1 percent in the fourth quarter.


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