Sweden Riksbank Preview (May 8): When, Not If?
It seems to be a question of when, not if as far as policy easing is concerned. Even at it previous policy assessment in February it was clear(er) that the Riksbank accepted that it could and should make its policy stance less contractionary, at least in conventional terms. But its last decision, again keeping the policy rate at 4%, and no change to the pace of bond sales, the Board was much more explicit that rate cuts are looming, and even as soon as the next meeting (May 8) or the following (27 June). This reflects a marked change in the policy outlook (Figure 1) which now very much chimes with our own long-standing view, albeit where we see slightly faster and larger cuts, partly a result of less optimistic growth assumptions and the ensuing risk of a sustained inflation target undershot than the Riksbank envisages. On balance, and in spite of the latest downside CPI surprise, amid Board concerns about continued krona weakness we see a split vote, but with no change this time around, with the first move coming next month instead.
Figure 1: Riksbank Has a Marked Change in Policy Thinking
Source: Riksbank Monetary Policy Report (MPR)
Inflation Subsides Faster than Expected…
Recent softer-than-expected CPI data have surely motivated this marked change in Riksbank thinking and this continued in the data released since the March policy verdict which undershot all expectation, not least the Riksbank. Notably, while y/y data are still a little above target, core inflation (CPIF ex-energy), when seasonally adjusted, is showing m/m smoothed rates close to zero. Moreover, even on y/y basis the array of underlying measures has not just fallen sharply of late, but actually not just faster than the Riksbank expected but much faster than when it rose (Figure 2); m/m ppt changes have been far more sizeable on inflation’s retreat than it previous surge. But this inflation fall is all the more notable as it has come in spite of the weaker krona, seemingly a reflection of domestic weakness taking its toll on pricing power.
…As Recession Continues
In this regard, it is notable that the recession has now stretched to four successive quarters with GDP activity at the end of Q1 slumping, possibly as unseasonable weather patterns corrected back. But also it is clear that Riksbank policy has bitten. We still think the economy will contract this year, not least as the Riksbank balance sheet shrinkage is aggravating the worrying and almost unprecedented contraction seen in bank lending.
Figure 2: Inflation Fall Faster than Surge
Source: Riksbank, m/m ppt change in each underlying gauge
Policy Considerations
Thus we are less optimistic about the scale of the recovery, albeit agreeing with the Riksbank assertion that the current quarter may still see a slight pick-up. Overall, our activity outlook is consistent with slightly larger (ie by some circa 35 bp) cumulative rate cuts we anticipate by end 2025. But with the Riksbank pointing to the economy picking up and growing above trend at over 2% in 2025 and in 2026, this still generates a negative output gap persists out and through 2026. We think this growth outlook is somewhat optimistic. But the point is that the Riksbank still accepts that even this more upbeat real economy outlook delivers price stability, if not a slight target undershoot. But perhaps the most important rationale for the Riksbank change if heart may be a realization that by easing earlier, the ever-cautious Board has more flexibility and can subsequently ease more slowly to avoid possible policy errors should inflation start to return.
Change in Perspective
While this hint of earlier rate cuts is far from a Riksbank commitment, it contrasts to the H1 2025 schedule in its last set of formal forecasts released last November, which implied no move before Q2 next year (Figure 1). Indeed, this Riksbank change of heart is even more marked as only last November it was not formally ruling out a further hike even though it then envisaged current policy inflation will return to target and stay there in the latter part of its 2-3 year forecast horizon, albeit with some volatility due to energy prices. Whatever the actual cause behind the Riksbank change of heart, it chimes with our long-standing forecast anticipating rate cuts from Q2, and some 75 bp cumulatively by end-year and something similar in 2025.