Economists Foiled by Guidance Pioneered by RiksbankJohan Carlstrom
The Riksbank has topped transparency studies for almost a decade. Now, Scandinavia’s biggest bank is faulting policy makers for confusing markets.
Nordea Bank AB is asking Sweden’s central bank, the world’s oldest, to scale back its commentary to help economists decipher its policy signals.
“The Riksbank says that it’s the world’s most transparent central bank, but I normally tell them being transparent is not the same as being clear,” Annika Winsth, chief economist at Nordea in Stockholm, said in a phone interview. “We’re getting a bit too much information. We’re running after all the signals they send, but things become very unclear.”
Central banks have emerged as the chief engineers of a global recovery as political stalemate threatens to slow the main engines of economic growth. In the euro zone, the European Central Bank has sought to repair the damage of flawed fiscal policies with unprecedented easing, while in the U.S., the Federal Reserve is still backstopping the economy as politicians bicker over the debt ceiling.
Yet as markets obsess over the signals they get from their central bankers, officials are struggling to calibrate their message. The Fed’s signals earlier this year that it might start scaling back monthly bond purchases as early as September confused investors and economists when no such tapering materialized.
San Francisco Fed President John Williams warned as early as August that the U.S. central bank needs to coordinate its message “effectively” to avoid “at least somewhat the risks of big market turmoil.”
In Sweden, the Riksbank’s six board members have made about 60 speeches this year to help guide market participants in understanding its projections. Since 2007, the bank has provided detailed projections of interest rates, based on published assumptions of economic growth, unemployment and inflation.
Yet 23.8 percent of economists tracking the Riksbank have misjudged its signals since it started providing forward guidance more than six years ago. For the ECB, only 7 percent have misread the Frankfurt-based bank over the same period, according to data compiled by Bloomberg.
Policy makers at the Riksbank “hold a lot of speeches but that’s not the same thing as transparency,” Roger Josefsson, chief economist at Danske Bank A/S in Stockholm, said in an interview. “Quantity is not the same thing as transparency. They’re so scared of being misinterpreted that their communication becomes very unclear.”
The Riksbank said last month it will start raising its benchmark repo rate from 1 percent late next year. Yet Sweden’s June forward, which traded at 1.34 percent today, suggests a small chance of a rate increase by the end of the first half. The contract settles to the Stockholm three-month interbank offered rate, which was at 1.21 percent today. The difference between Stibor and the repo rate has averaged 21 basis points over the past year.
The Riksbank has topped every transparency study led by University of California Berkeley Professor Barry Eichengreen since 2002. In the latest ranking, the ECB shared the seventh spot with the Fed, as well as the central banks of Canada and Australia. The 2010 ranking, which is the most recent, was based on a study of 120 central banks.
Riksbank Governor Stefan Ingves said this month he sees no reason to change the bank’s communications policy. His deputies support him.
“We are as clear as we can be given that we’re conducting a business where we make decisions amid uncertainty of various kinds,” Deputy Governor Cecilia Skingsley said in response to questions on Oct. 10. “We’re doing our best.”
Sweden’s economy will expand 0.9 percent this year and 2.3 percent next year, compared with a contraction of 0.4 percent in 2013 and growth of 1 percent in 2014 for the euro area, according to the International Monetary Fund. Swedish unemployment, meanwhile, is seen at 7.7 percent next year, the highest rate in Scandinavia.
Josefsson at Danske Bank blames the Riksbank’s policy of trying to stick to already published comments whenever its board members appear. The noise of constant appearances gives a false impression of being updated on the bank’s latest views, whereas policy makers are just trying to repeat the bank’s official position, he said.
“The risk of surprise would have become much smaller if they had been free to express their views in between meetings,” said Josefsson. “That would have been real transparency.”
Yet Sweden’s approach to forward guidance has since been copied elsewhere. In the U.K., Governor Mark Carney has sought to guide markets by linking interest rate decisions to unemployment goals. He has also been grilled by lawmakers questioning the value of the tool.
In Sweden, the Riksbank has left its benchmark repo rate at 1 percent since December. The ECB has left its main rate at 0.5 percent since May. Both banks last surprised markets in September 2012, when the Riksbank unexpectedly eased policy, and the ECB didn’t deliver an expected cut.
The U.S. Federal Reserve has said it will keep its target rate near zero at least as long as unemployment is above 6.5 percent and inflation doesn’t exceed 2.5 percent. The ECB pledged in July to keep rates at, or below, current levels for “an extended period.” The Bank of England in August said it won’t consider raising rates until unemployment stabilizes at 7 percent.
“Some people say that the Riksbank has been giving forward guidance for a long time, but I would argue that they really haven’t, at least not in the way it’s being used today, because real forward guidance is when you promise to keep rates at a certain level,” said Par Magnusson, chief economist at Royal Bank of Scotland Group Plc in Stockholm. “That’s what the Fed does.”
The Riksbank fielded criticism in 2008 after it raised rates 11 days before the collapse of Lehman Brothers Holding Inc. Of economists tracking the bank, 36.4 percent hadn’t seen that move coming. In February and December the same year, none of the economists following the bank correctly predicted its rate moves. That’s never happened to analysts tracking the ECB since 2007.
Economists complain that the Riksbank is now fudging its message by incorporating household debt into its considerations without providing clarity on how that affects rate decisions.
Even within the Riksbank’s board, two members have criticized the approach. Lars E.O. Svensson, a former colleague of Federal Reserve Chairman Ben S. Bernanke, stepped down from the Riksbank’s board in May after arguing it’s not the role of a central bank to focus on the housing market.
Yet, the bank’s admission that it’s straying from its inflation target in tracking household debt has ultimately helped economists predict its moves, the data suggest.
Since the Riksbank first mentioned its concern that the housing market is out of balance in July 2010, the rate of correct economist predictions has risen. Of analysts tracking the bank, only 16.5 percent misjudged its signals between July 2010 and September this year, according to data compiled by Bloomberg. That’s a 7.3 percentage point improvement on the overall track record since 2007.
Yet that still leaves the Riksbank far behind the ECB. Of economists following the Frankfurt-based bank, only 8.2 percent have misread its signals since July 2010.
The Riksbank’s communications “problem is that no one really knows what it is they want to achieve,” said Magnusson at RBS. “What’s happened is that they’ve strayed away from a clear framework where they act according to an inflation rule to becoming more discretionary and introducing other targets.”
Winsth at Nordea is advising investors to look at the Riksbank’s unemployment forecast instead of inflation, which she says is proving a more reliable guide for how the bank will act.
The Riksbank’s rate setting has failed to bring inflation closer to target. Consumer price gains have been below the bank’s 2 percent goal for the past 21 months. The bank’s mixed signals are making it difficult for investors to commit to Swedish bonds. Debt issued by the government of the largest Nordic economy has delivered investors a 3.2 percent loss this year, according to data compiled by Bloomberg.
That “it’s never been as difficult as it is now,” to predict the Swedish bond market is “perhaps not a completely wrong way to describe things,” said Andreas Halldahl, who manages about $16 billion in bonds at Storebrand Kapitalforvaltning AS. “The inflation target is at odds with the worry about house prices.”
Sweden in August expanded its tool kit to prevent private debt from rising out of control by assigning the financial watchdog additional powers, including the ability to demand that banks hold extra capital. Though the government has sought to create regulatory tools that free the Riksbank to focus on inflation targeting, the bank says it remains unclear how monetary policy will balance macro-prudential considerations with its goal of stable consumer prices.
According to Robert Bergqvist, chief economist at SEB AB in Stockholm and a former researcher at the Riksbank, policy makers are carving out a post-crisis framework that will ultimately help create a more effective approach. Once the dust settles, economists will also get used to interpreting the new model, he said.
“It will become easier to read the Riksbank in the future,” said Bergqvist. “Once the macro-prudential supervision is in place, I think they will be able to conduct a more traditional monetary policy.”