Sweden’s monetary drama could turn noir

Scandinavian countries are often held up as beacons of prosperity, shining examples of what modern, marketoriented economies should look like. But on the monetary policy front, Britain would do well not to follow Sweden’s lead. Beneath the veneer of a calm, clean and fair society, Sweden follows a macroeconomic strategy that could potentially lead the country to disaster – yet the people in charge appear loath to do anything about it.

In April, Sweden’s central bank, the Riksbank, moved the base rate, known as the repo rate, into negative territory. At the same time, it announced its own version of quantitative easing.

At its most recent monetary policy meeting at the beginning of July, the central bank cut the repo rate again, by 0.1 percentage points to -0.35, while at the same time extending its purchase of government bonds by a further 45bn krona (£3.5bn).

This is all designed to head off deflation by encouraging banks to lend and people to spend.

But here’s the thing: the economy in Sweden is actually booming. Year on year it is expanding at around 3pc, much faster than the finance ministry had forecast at the start of the year. Core inflation is running at 1pc, there are more people in fulltime work than ever before and consumption expenditure is rising at a buoyant 3-4pc a year.

So why the monetary stimulus? The Riksbank recently said that “uncertainty abroad has increased”. It added: “In this uncertain environment, monetary policy needs to be even more expansionary to ensure that inflation continues to rise towards the target of 2pc.”

Quite aside from the fact that Sweden’s economic situation doesn’t appear to require such unprecedented loose monetary policy, it is having an alarming effect on asset appreciation and personal debt levels.

For a supposedly democratic socialist country concerned with the distribution of wealth and income, it is enabling the well-off to borrow money at record low rates to buy assets (be they properties or shares) while the poor with a few kronas of savings see their nest eggs whittled away by negative interest rates.

The central bank’s own figures demonstrate this: the debt ratio for households in higherincome groups has increased far more than that for households in lower-income groups.

Sweden’s aggregate debt to income ratio – average debt across all households compared to average income – was 172pc in the fourth quarter of 2014. For households with mortgages (Swedes prefer the interestonly variety), the figure climbs to 315pc. This is relatively high from an international perspective.

If we assume debt and income develop at the same rate as they have done in the past 10 years, the average ratio could be more than 225pc by the end of the next decade. In the UK, the equivalent figure is roughly 136pc, and it has been falling.

In a desperate attempt to correct the impact of monetary policy on an unsustainable property boom, the authorities are seeking to outlaw interest-only mortgages and remove mortgage tax relief. So Sweden is blessed with a confusing and possibly dangerous mix of inconsistent policies pulling in opposite directions.

There are other reasons why Swedes don’t save besides paltry returns from bank deposits. The generous welfare state means you’re well taken care of: Swedish citizens don’t pay for their university education, elderly care is free and of high quality, child care is heavily subsidised and the state pension system is well administered.

So, what’s the use of saving? Might as well splash out while borrowing is so affordable.

Nevertheless, the Riksbank refuses to deal with this looming asset price bubble and soaring debt levels by raising interest rates. This is because hikes will strengthen the krona. The Swedish krona is not officially pegged to the euro like the Danish krona. But the government appears to be following an unofficial peg while denying it is doing so (despite the fact that Swedes voted overwhelmingly against joining the euro).

This exchange rate policy makes Swedish exports to the non-euro area much more competitive. It is interesting, though, that Sweden’s balance of trade with the eurozone is invariably negative, while with the rest of the world it is positive.

Were it a bigger country, Sweden might be accused of pursuing a “beggar thy neighbour” currency war. In the case of Sweden, which prides itself on being morally superior to other countries, this would appear to be somewhat hypocritical.

The country is run by a minority government, formed from a coalition between the Left-leaning Social Democrats and the Green party, with tacit approval from the Left Party. The prime minister is a former trade unionist with no previous experience in government. In fact, he wasn’t even an MP at the time of his appointment to lead the main opposition party.

The government is only hanging in there because the “mainstream centre” opposition parties made a murky deal with the Social Democrats to keep the third-biggest party, the Swedish Democrats, out of power. This makes for an inherently unstable situation.

It is perhaps unsurprising politicians are focusing on the short term. But the country’s central bankers should have longer time horizons. They cannot go on lowering interest rates further into negative territory. This is a completely untested approach. The Riksbank, which prides itself on being the oldest central bank in the world, does not seem to be acting entirely independently of the dysfunctional government.

Like the country’s crime dramas, it could easily end in tears.

‘The central bank refuses to deal with the looming asset price bubble by raising rates’