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The move by the Swedish Riksbank to follow the lead of the Swiss National Bank’s foray into negative interest rate territory has yielded results that defy conventional wisdom in spite of incremental gains in the economy as a result of these extreme monetary policies. Growth has remained largely intact and inflation in positive territory stands as an accomplishment for a Central Banker of any advanced economy in present times. Nevertheless, these incremental gains are not without risks as evidenced by the rapid appreciation of domestic real estate prices, leading investors to believe a potential bubble maybe forming in the sector. While, the Riksbank might be forced to taper its current strategy if forced to contain the risks of a housing sector meltdown amid rapid price appreciation, the risk of a further devaluation of the Krona is real especially if the Federal Reserve continues on its own path of policy normalization.
The Fundamental Picture
Interest rates in negative territory create numerous risks for an economy because it inherently incentivizes risky investment behavior as a result of skewed borrowing costs. In the case of Sweden, borrowing costs in negative territory have managed to blow a bubble in housing costs as price appreciation of real estate in major cities surges. From a pensioner’s perspective, zero rates is a nightmare, making it challenging to invest for retirement and live off of investment income. However, the Riksbank is left with few choices as far as how to manage policy amid the weak external situation and the outlook for inflation.
Inflation has managed to just barely climb back into positive territory, printing at 0.10% over the last three annualized readings. Nevertheless, until inflation shows that expectations of reaching back towards the Central Bank’s target are more anchored and on a positive trajectory, the Riksbank is unlikely to move on rates, especially in light of trying to keep the currency competitive for exports. Luckily, a byproduct of monetary accommodation and loose policy measures has been the boost felt in output. The annualized pace of GDP expansion has gradually accelerated, climbing to a 3.90% annualized pace, reverberating from the impact of monetary stimulus and quantitative easing from the Riksbank.
