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Swedish economic outlook: Heating up

Swedish economic outlook: Heating up

The Swedish economy is entering a new phase where high resource utilisation will hamper production growth. Growth is set to become more widespread, with investment as a key driver alongside exports and household consumption. The labour market will normalise near-term and wage growth will pick up. With soft central banks around the world, the Riksbank will remain sidelined

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Swedish

Maturing cycle

Economic Outlook September 2021 cover image showing a butterflyThe pandemic is not over but the economic impact will gradually decline. Monetary conditions domestically and among Sweden’s trading partners are exceptionally benign. GDP surpassed pre-crisis levels earlier this year and resource utilisation will soon be just as high as in the boom period of 2017-18.

Near-term, a shortage of goods will hamper growth but the problems will gradually subside. Instead, labour shortages will give rise to increasing concern. Wage growth is picking up but is not high enough for inflation to stabilise at the 2% target. Instead, rising food prices give a temporary boost to inflation. The Riksbank will maintain an unchanged monetary policy line and the SEK will only slowly strengthen.

Growth in demand will decline over the forecast period. Rising energy prices, the pick-up in longer bond yields and tighter economic policies in some countries will slow down the global upturn.

In Sweden, the working-age population will grow modestly in coming years, in sharp contrast to the past ten years’ record numbers. Slower population growth will dampen GDP growth in both the short and long term.

New COVID-19 variants cannot be ruled out and pose a risk to our forecast. However, households and businesses have adapted to the pandemic. And in the Nordics, vaccination rates are high. Growth may slow a bit more than we assume in our forecast, but a renewed economic downturn appears rather unlikely.

Swelling order books

The pick-up in global activity is showing through in exporters’ order books, which have never been as full as they are now. Our forecast for the global economy in this issue of Economic Outlook as well as Swedish export indicators suggest that demand will continue to grow near-term.

Exports and thus Swedish GDP could grow even faster as the manufacturing industry currently have difficulties keeping pace with the surge in demand. For example, car and truck makers have been forced to briefly suspend production because of input shortages. The problems will most likely persist near-term. However, next year supply should normalise. Export growth will nevertheless slow next year as global growth moderates.

Sweden: Macroeconomic indicators

2019 2020 2021E 2022E 2023E
Real GDP (calendar adjusted), % y/y 2.0 -3.0 4.5 3.5 2.0
Inflation (CPIF), % y/y 1.7 0.5 2.1 1.7 1.3
Unemployment (SPES), % 7.0 8.5 7.9 6.9 6.7
Current account balance, % of GDP 5.2 5.6 6.1 5.5 6.0
General gov. budget balance, % of GDP 0.6 -2.8 -1.8 -0.6 -0.4
General gov. gross debt, % of GDP 34.9 39.7 37.6 34.5 33.4
Monetary policy rate (end of period) -0.25 0.00 0.00 0.00 0.00
EUR/SEK (end of period) 10.51 10.04 10.40 10.20 10.10
graph: A / Strong GDP growth B / Investment is gaining momentum

Household spending is rising

Household consumption has increased but was still below pre-crisis levels in Q2. Consumption of goods has been strong during the pandemic while people have not been able to travel or buy certain types of services.

Over the summer, restrictions in Sweden were eased and real-time data now indicate that household consumption of services has started to pick up. And the financial conditions are in place for increased consumption. Household savings are record high, their financial situation is stronger than ever, credit growth is record high and the labour market is improving. Read more about households’ finances in this theme article.

Hot housing market

Another factor suggesting a surge in consumption is the housing market. Rising housing prices tend to underpin households’ propensity to consume. The prospect of low interest rates for a long time, as well as the scrapping of interest on deferred gains of up to SEK 3m and changed preferences as a result of the pandemic, have sent prices sky high.

But the housing market now seems to be stabilising. According to surveys household expectations remain positive, although a lower percentage now expects rising prices. Moreover, the amortisation requirement for mortgages will be reintroduced in September this year, which will likely dampen demand for homes somewhat.

Consequently, a slight decline in housing prices over the forecast period is likely, although we do not currently see any reasons for a major correction. Interest rates are low and given that a general election is coming up next year, odds are that no new regulations will be introduced before then. Higher real estate construction and slowly rising mortgage rates will, however, take their toll on housing prices, which are set to increase at an annual average rate of 13.5% in 2021 and 2.5% in 2022.

Investment a new growth driver

The overall trend in the housing market has contributed to boosting residential construction. Moreover, business investment is increasing overall. Public sector investment is rising as well, as part of the government’s historically very expansionary fiscal policy. The public sector budget deficit looks set to be less than 2% of GDP this year. In the near future, the deficit will decline despite a continued expansionary bias in the election year of 2022. Public sector debt (Maastricht) peaked at just under 40% of GDP in 2020 and the debt ratio will diminish in the years ahead.

Employment back to normal

The labour market is recovering from the crisis. Hiring plans and new job vacancies are at record-high levels and the number of layoff notices is at its lowest level since the 1980s. Labour shortages are mounting and already pose a bigger problem than is normally the case, especially in the manufacturing industry. The slow growth in the working-age population is worsening the situation further.

Employment growth will therefore not be as high as recent demand trends suggest. Matching supply and demand will be a hot topic during the autumn. Unemployment is declining rapidly and employment will reach a new record high over the forecast period. Owing to the substantial changes to Statistics Sweden’s labour force survey (LFS), the data are difficult to interpret. According to the Swedish Public Employment Service (SPES), unemployment has continued to decline and we expect unemployment to be back at pre-pandemic levels by mid-2022.

Demand for labour is record high and the number of layoff notices is at an all-time low since the 1980s.

Torbjörn Isaksson, Nordea Chief Analyst

graph: C / Sharply rising employment D / Temporarily high inflation this year

Temporary price increases

The strong demand and substantial labour shortages are partly feeding through to wages. However, the agreed pay rise of a mere 2% annually will apply through March 2023, dampening total pay rises. Moreover, wage trends in the Euro area remain subdued. This is significant for wage formation in Sweden. We nevertheless expect wage growth to rise driven by accelerating wage drift (pay rises beyond those agreed). But overall pay rises will still remain relatively modest in a historical perspective. As a result, the pick-up in inflation will be temporary.

So far this year, energy prices (electricity prices in particular) have increased sharply, This increase is the main reason why inflation has picked up over the year as it has lifted CPIF inflation by almost 1% point. As always, energy prices are difficult to predict, but in our view they are not likely to rise at the same pace next year as this year – and this will also contribute to driving inflation lower.

The high level of global demand for goods and the global logistics problems will boost inflation, in particular food prices. However, in addition to modest wage inflation, high profitability in the business sector also suggests that any further pick-up in inflation will be temporary.

Inflation THE focal point for the Riksbank

Due to the rising energy and food prices, CPIF inflation is in line with the target over the coming year. Higher inflation, albeit temporarily, and the strong economy reduce the likelihood of further monetary policy stimulus. At the same time, any tightening move seems distant. A repo rate hike would require that the Riksbank feels comfortable about inflation remaining around the 2% target in the medium term. And this seems distant.

Recently, both the Fed and the ECB updated their long-term strategies. And in Sweden, the new Riksbank act will come into force on 1 January 2023. For the Riksbank the new act will not imply any major changes, while the Fed’s and the ECB’s new strategies could somewhat dampen their inclination to hike rates. Especially the ECB’s more expansionary bias will contribute to preventing the Riksbank from acting unilaterally.

Against this backdrop, we expect the Riksbank to keep the repo rate unchanged at zero over the entire forecast period ending in December 2023. The Riksbank’s asset purchase programme progresses as planned, with continued, albeit reduced, purchases in H2 2021 and an unchanged balance sheet in 2022. However, in 2023 the Riksbank will likely start to trim its balance sheet.

The performance of the SEK is of great importance to inflation and consequently to the Riksbank. If the Riksbank were to lift its foot off the accelerator, this could cause the SEK to strengthen and in turn lead to lower inflation. The policymakers at the Riksbank will no doubt try to avoid this and as a result the SEK will remain weak. We expect the SEK to continue to trade at levels above 10 versus the euro and to weaken slightly versus the dollar in H2 2021.

This article originally appeared in the Nordea Economic Outlook: A new phase, published on 1 September 2021.

Author:

Torbjörn Isaksson, Nordea Chief Analyst
Torbjörn Isaksson, Nordea Chief Analyst

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