The Riksbank, Sweden’s central bank, has sent shockwaves across the country this week by increasing interest rates an entire percentage point. This has taken the base rate to 1.75%, and the bank has warned that more rate hikes will come as it struggles to regain control of soaring inflation.
The rate hike, announced on Tuesday, was much bigger than expected. It comes after inflation rose to its highest level in 30 years, hitting 9% in August, surpassing forecasts by the Swedish central bank and in part down to rocketing energy prices. Unfortunately, it means that interest rates will likely continue rising over the coming six months.
The rate hike marks the biggest seen since 1992, when Sweden experienced a national financial crisis. It is also the biggest since the inflation target came into play in 1993.
Reducing inflation risks
Following the announcement of the rate increase, the governor of the Riksbank, Stefan Ingves, spoke to reporters about the central bank’s commitment to bringing inflation under control.
He said: “When rates go up, obviously, interest costs go up for many households, but the costs of high inflation – persistently high inflation – those are, in fact, even bigger. By raising rates now and by continuing to hike rates we reduce the risk that inflation is going to park itself at a high level.”
The rate increase has come as a shock not just for borrowers across Sweden but also for analysts. Following a recent Reuters poll, most economists had predicted a rate hike of 75 basis points. Only two of those polled expected the central bank to increase the base rate by 100 basis points.
The central bank has to take aggressive action to try to control inflation, a move that other central banks are mirroring around the globe. One concern rate-setters have is that soaring prices could lead to demands for higher wages, and this could make it even more challenging to tackle inflation in the longer term.
The Riksbank believes that GDP will shrink by 0.7% in 2023. Still, despite the economic downturn and the risk of a recession, rate increases will continue. Rate-setters had previously predicted the policy rate would peak at 2% early next year, but this has now been amended to a forecast of 2.5% in the second quarter of 2023.
Lars Kristian Feste, head of fixed income at Ohman Group, said: “We … believe the policy rate will be higher than that and we don’t exclude a peak of 3.5% at the end of 2023. The reason is that inflation is not going to come down as fast as in the Riksbank’s forecast of around 2.0% in 2024.”