• Government hesitant to hike taxes amid plunge in opinion polls
  • But better-than-expected GDP growth may give it some respite

Sweden’s government should face reality.

Its Social Democratic-led government is having to balance managing a record inflow of refugees with the need to safeguard fiscal credibility and cool an economy at risk of overheating.

The obvious solution is to raise taxes, according to Lars Calmfors, an economy professor at Stockholm University and the former chairman of the Swedish Fiscal Policy Council.

But in politics, what’s obvious isn’t always appealing.

The government may have won international praise for accepting the most asylum seekers per capita in the European Union, but back home it has slumped in the opinion polls. Profiting from the growing resentment at the unprecedented inflow of refugees fleeing war-torn countries such as Syria and Afghanistan is the Sweden Democrats, an anti-immigration party in opposition that has played a key role in getting ID and border controls approved in parliament.

“The government probably doesn’t dare raise taxes to fund increased migration costs out of fear it will play into the hands of the Sweden Democrats by showing voters that accepting this many refugees comes at a price,” Calmfors said in an interview this week. “It’s a political calculation, but it’s pretty risky to the credibility of fiscal policy.”

Integration Costs

For now, the fiscal situation is under control. The country’s debt office last month said Sweden will probably post a surplus this year as the economy steams ahead, buoyed by unprecedented central bank stimulus and rising government spending to cover the inflow of refugees.

Calmfors’ preference would be for a property tax, since it would also help cool the housing market. But “that’s not politically feasible,” he said.

“How immigration will affect the economy in the long run comes down to whether we manage to improve integration in the labor market,” he said. Some studies show it takes at least a decade for newly arrived immigrants to get a job.

The key to getting people faster into the labor market is education, employment subsidies, tax deductions for various household services and lower minimum wages, Calmfors said.

It all comes at a cost.

Economic Boom

The good news is that Sweden’s economy expanded faster than estimated in the fourth quarter after the central bank unleashed record stimulus to defend the credibility of its inflation target.

What’s more, there are signs the housing market is beginning to cool. Inflation has also started to pick up, with consumer prices climbing 1.6 percent last month. Apartment prices were unchanged in the three months through January.

Still, economic growth won’t solve all the problems on its own.

"The government needs to dare raising taxes to spend for increased immigration costs," Calmfors said. "Otherwise, Sweden risks losing credibility when it comes to the targets we have set for fiscal balance.”

Before it's here, it's on the Bloomberg Terminal. LEARN MORE