Bloomberg News

Riksbank Fights Abnormal Crisis With New Tools to Aid Growth

December 07, 2011

(Updates with analyst comment in 11th paragraph.)

Nov. 25 (Bloomberg) -- The Swedish central bank’s response to the worst shock to the global financial system since the Great Depression was to stretch its mandate to include asset prices and financial markets.

And it worked. The bank’s approach laid the foundation for the European Union’s fastest economic rebound, helped reduce debt and create budget surpluses. Sweden’s government now pays less to borrow than Germany.

“If you’re outside what’s considered to be normal then you need to be prepared to reconsider,” Riksbank Governor Stefan Ingves, who is also the chairman of the Basel Committee on Banking Supervision, said in an interview in Stockholm. “We have learnt the hard way and many, many other countries similarly, that if you have too much leverage somewhere in the system, that leverage comes back to bite you sooner or later.”

Drawing lessons from the U.S. subprime bubble and the ensuing sovereign debt crisis, as well as Sweden’s own financial meltdown in the 1990s, policy makers led by Ingves strayed from their inflation mandate to take potential imbalances into account when setting interest rates. The Riksbank expects Swedish output to grow 4.2 percent this year, close to three times the rate at which the International Monetary Fund estimates the economies of the euro area and the U.S. will expand.

Swedish 10-year bonds yielded 63 basis points less than similar-maturity German bunds today, the biggest borrowing advantage versus the euro area’s largest economy in eight years.

Assessing Risk

The crisis has demonstrated that central bank models don’t take financial system risks properly into account, Ingves said, adding that it’s necessary to design econometric models that better catch the dynamics of the global economy.

Federal Reserve Chairman Ben S. Bernanke last month signaled he also may be changing his view on the degree to which asset prices should be incorporated in monetary policy, a tool he in 2002 deemed “far too blunt” to prevent bubbles. “The possibility that monetary policy could be used directly to support financial stability goals, at least on the margin, should not be ruled out,” Bernanke said on Oct. 18 in a speech in Boston.

“It’s technically hard to include” a “full-grown financial sector in the model,” Ingves said. Still, “it probably can be done and it should be done. It’s something that we’re looking at and it’s something that for sure is of concern to us. We’ll keep at it. One day, we’ll get there.”

Tougher Regulations

Sweden, whose biggest banks are four times the size of the economy, will post budget surpluses this year and next. The 17- member euro area, by contrast, will post a 4.1 percent deficit of gross domestic product, the European Commission said Nov. 10. Sweden’s government debt will decline to 36.3 percent of the economy this year, compared with a euro area average of 88 percent, according to the commission.

The Riksbank, together with the financial regulator and Finance Ministry, today announced tougher capital standards for Sweden’s four biggest lenders than those targeted by Basel. Nordea Bank AB, Swedbank AB, Svenska Handelsbanken AB and SEB AB will need to meet common equity Tier 1 capital ratios of at least 10 percent from 2013, and 12 percent two years later.

Swedish banks “remain a comparative safe haven to the ongoing European banking system problems,” Prateek Datta, a London-based analyst at Royal Bank of Scotland Plc, said in a note to clients today.

The decision to exceed international standards shows that Sweden is a “pioneer,” in the arena of financial stability, according to the Riksbank’s joint statement.


Swedish household credit growth eased for a 13th month in October after the Riksbank raised rates earlier this year, even as underlying inflation lagged behind its target. Borrowing slowed to an annual 5.5 percent last month, compared with a peak of 13.2 percent in March 2006, the statistics office said today.

In part, Sweden’s outperformance was possible because the Riksbank acted more forcefully than the European Central Bank and the U.S. Federal Reserve to prop up growth when the crisis erupted in 2008. Following the September 2008 collapse of Lehman Brother Holdings Inc., the Riksbank quickly built its balance sheet to more than 20 percent of Sweden’s gross domestic product, peaking at 25.3 percent in July 2009. By contrast, the ECB’s balance sheet swelled to as much as 23.5 percent of the euro area’s economy in June last year, while the Fed’s grew as high as 18.7 percent of U.S. output as of May, 2011, according to Riksbank data.

Riksbank Balance Sheet

The Swedish bank has since reduced its balance sheet to 9 percent of GDP by May this year, forcing Sweden’s financial system to deleverage more than its counterparts in the U.S. and the euro area. As of May, the latest available data from the Riksbank, the ECB and Fed still had balance sheets of 20.4 percent and 18.7 percent of GDP, respectively.

The Riksbank also moved faster on rates, cutting its repo rate by 4.5 percentage points between October 2008 and April 2010, to a record-low of 0.25 percent. In the same period, the European Central Bank cut its main rate by 3.25 percentage points. The Swedish rate is now at 2 percent, versus the ECB’s 1.25 percent.

The Riksbank in July last year started raising rates amid a surge in asset prices, even as inflation remained below target. The bank signaled it was looking at indicators beyond consumer prices to gauge the temperature in the broader economy. Policy makers are now signaling they may be willing to cut rates if Europe’s debt crisis deteriorates.

‘Initiating Reform’

“The Riksbank, as well as other institutions in Sweden, is a precursor in initiating financial reform,” Jean-Charles Rochet, a professor at the University of Toulouse and co-writer of an August report on the bank, said in a phone interview. “It’s one of the central banks on the forefront of reforms.”

The flexible approach is in contrast with a stricter adherence to the rule book at other banks including the ECB, which is also bound by a treaty not to purchase debt directly from governments.

The ECB’s reluctance to expand its role in tackling the region’s debt crisis has come under fire from critics including Nobel Laureates Paul Krugman and Joseph Stiglitz. The ECB has countered that its role doesn’t include monetary financing, a move it says will spur inflation and is against the bank’s founding treaty.

The ECB also accounts for asset prices, former Executive board member Gertrude Tumpel-Gugerell said in a May speech. The bank’s practice of analyzing money and credit growth helps prevent the formation of asset-price bubbles, she said, calling it a “leaning-against-the-wind attitude.”

Still, the ECB may yet be forced to do more.

‘New Shocks’

Without a political solution to the euro area’s debt crisis, “the ECB, in my view, will actually have to move at some point and not necessarily in the distant future,” Charles Goodhart, a professor at the London School of Economics, said in a phone interview.

“New developments occur, new shocks, new information comes in and the people involved are fully capable of adjusting their arguments, their views and their policies to the new conditions,” Goodhart said. “The Riksbank has certainly been among the leaders in this case and it’s always been one of the leading central banks and remains as such and it’s a very admirable place. Conditions change and when conditions change you have to change your response.”

According to Ingves, sticking to rules can undermine a central bank’s ability to solve problems. His bank’s success in steering Sweden through the global crisis lies in its flexible approach, he said.

“In difficult circumstances there is no way of ex-ante knowing what works and what doesn’t so it’s a bit of a trial and error,” said Ingves. “When the unknown appears then you need to reflect on what tools are available and you also need to be prepared to just reconsider.”

--Editors: Tasneem Brogger, Jonas Bergman.

To contact the reporter on this story: Johan Carlstrom in Stockholm at

To contact the editor responsible for this story: Jonas Bergman at

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