Sweden has entered the spreading currency war by cutting interest rates from 0% to -0.1% and launching its own version of quantitative easing (QE). As the central bank of the country the Riksbank was announcing the new monetary initiative, politicians inside the country cheered on the effort to stimulate new growth and investment in Sweden.
It seems that every country around the world is joining the effort of devaluation in a race to the bottom. At this point, one might begin to wonder what the eventual outcome will be for global investor confidence? How can any rational person think this pecuniary experiment ends well?
If a person looks to history for the answer, there are some similarities to this present phenomena in the international economy in the 1930’s. At that time each country attempted to protect domestic industries by enacting ever more stringent protectionist barriers. The end result was a significant reduction in global trade that damaged everyone. It made the world wide Great Depression much worse. These beggar thy neighbor policies never work. As each country attempts to become more competitive by market manipulation, any temporary advantage is quickly negated by similar policies elsewhere.
In Sweden the interest rate cut will be accompanied by a QE program which calls for the central bank to buy 10 billion additional krona, the equivalent of 1.2 billion USD (United States Dollar). This is in response to what is happening in Denmark, Switzerland and other countries in Europe that have not adopted the Euro as their national currency.
Sweden is hoping that these latest monetary moves will help the country reach the stated goal of 2% inflation. It is also supposed to jolt the economy back towards growth. A weaker kroner would help stimulate Swedish exports, or at least maintain market share. This is welcome news to the automobile, construction and the telecommunications industries inside the country. If this first round fails, the head of the Riksbank Stefan Ingves has promised more rate cuts and central bank purchases of debt.
The negative side of these government actions most importantly among them being the unsustainable negative interest rates, is that it erodes investor confidence in Sweden itself. A below zero interest rate does force Swedish banks to being more proactive in growing their loan portfolios. This is the only way to stem losses, but the long term side effect is that more debt will be issued to less than reliable customers.
The ultimate risk to the banks is initiating another sub-prime episode, as what occurred with the mortgage crisis in the United States during 2008. The resulting financial meltdown of these toxic loans, spread a contagion of panic throughout the international markets. It nearly destroyed the Western banking system at the time.
The Swedish central bank the oldest in the world at 350 years, felt it necessary to begin more active monetary action, when the rate of inflation in the country dipped to -0.3%. Officials felt this indicated that deflation was starting to take hold in the country. What also helped push the country’s leaders towards more QE was the economic forecasts for growth in Sweden. After the unimposing rate of 1.8% in 2014, there was initial relief that growth was forecast to reach 3.0% in 2015. Once the Swedish minister of finance Magdlaena Andersson announced a reduction in the projected rate of growth to 2.4%, it galvanized officials to lower interest rates and to start another phase in QE.
As expected the krona fell in value against the Euro, in response to the moves of the Riksbank. It went from 9.50 kroner to 9.65. In addition, the 2 year government bond in Sweden which had been trading at a dismal -0.18% dipped further to -0.23, after the decision of the central bank.
The official Swedish inflation rate is already below zero yet the CPI (Consumer Price Index) of the country does not include housing prices, which continue on their upward trajectory. Household debt continues to increase as well, it is now the highest in the developed world. The length of time for mortgages have now become so extended, that end dates have little practical meaning. They have become life time commitments.
The Swedish stock market index OMXS30 ( the 30 largest companies in the country) is already up 30% since last October. There are only two investments that make any sense in the country any more, that is real estate and stocks.
What would be another option to stimulate economic growth in Sweden rather than this type of monetary policy? The first would be the taxation system. The individual rate stands at 57%. The corporate rate is 22% in addition to a VAT (value added tax) and a capital gains tax. The effective rate for citizens is approximately 68%. Reform of the taxation system could help impact business development in a positive manner.
The overall tax burden is over 44% of the domestic economy with public spending accounting for 51.9% of that output. Government debt is 49% of the GDP (Gross Domestic Product) of the country. The previous more conservative government, cut both taxes and spending in an effort to stimulate more growth in the private sector. The new government is reversing many of those cuts, in a drive to raise government spending to ever higher levels.
That this reversal in fiscal policy, will necessarily end up hurting business expansion in a country with unemployment at 8%, is not acknowledged by the government. The non-salary cost of hiring a worker for example, is already high and continues to increase. The number of state owned businesses is relatively large and continues to hamper economic competitiveness for Sweden.
As has been roughly stated by the German chancellor Angela Merkel, in opposition to the ECB (European Central Bank) policy of quantitative easing, monetary policy cannot be the replacement for structural reforms in the quest for economic growth.
More conservative individuals in and out of government including this investment writer, continue to warn of the dire consequences of what Sweden and other countries are now doing. To engage in reckless fiscal and monetary policies at this juncture, puts the entire world financial system in real jeopardy.