Draghi’s QE Already Felt in Sweden as Deflation Woes Ease

President Mario Draghi’s decision to unleash the European Central Bank’s bond-buying capacity is already leading to adjustments in monetary policy outside the euro area.

In Sweden, there may now be less need for a quantitative easing program as price pressure spreads across Europe. Riksbank First Deputy Governor Kerstin af Jochnick said Jan. 23 Draghi’s plan will probably have a “spillover” effect on Sweden and help spur inflation. She also said data since the Riksbank’s last meeting were in line with estimates, while inflation and unemployment were even “slightly better.”

That may be enough to allow the Riksbank to keep its own QE plans on hold. Policy makers said in December they’ll probably need to leave the main rate at zero well into 2016, adding that further rate cuts and non-standard measures such as asset purchases were also being considered. Swedish consumer prices have fallen for five consecutive months, and headline inflation hasn’t reached the bank’s 2 percent target for more than three years.

“At present, it is less likely that the Riksbank will use these unconventional measures, but we do not exclude that it can be done later on,” said Michael Grahn, a strategist at Danske Bank A/S in Stockholm. “We don’t have it, however, as a main scenario.”

Swiss Example

Par Magnusson, head of Scandinavian rates strategy at Royal Bank of Scotland Group Plc, said the Riksbank will also probably wait and see how the Swiss National Bank’s decision to cut its main rate to minus 0.75 percent works before taking any unconventional policy steps.

“If the Swiss demonstrate that they can keep such a low policy rate without causing any financial instability, it will be an interesting precedent for the Riksbank,” he said.

Yet others are betting the bank will need to act. Citigroup Inc. said that quantitative easing is now the “main scenario” for Sweden after next month, when it predicts the Riksbank will cut its rate to minus 0.25 percent.

Talk of Riksbank bond purchases is the latest example of a dramatic about-face that follows an internal policy dispute and the departure of the bank’s two most outspoken easing advocates. Governor Stefan Ingves’s initial reluctance to cut rates, and decision to raise borrowing costs in 2010 and 2011, has since drawn criticism from exporters, economists, politicians and even Nobel Laureate Paul Krugman. The bank responded late last year by seeking to reassure markets it will do everything in its power to revive inflation.

Covered Bonds

There are some on the bank’s six-member board who are likely to resist bond purchases as a next step, said Claes Maahlen, head of trading strategy at Svenska Handelsbanken AB in Stockholm.

“Building a balance sheet is messy, reversing a repo rate is easy,” he said.

Sweden’s covered-bond market, almost double the size of the government-bond market, could also be a target, Maahlen said. Judging from previous comments “they may opt for fixed price repos,” he said. “Though I think other board members would prefer different measures.”

Citigroup said last week it sees the Riksbank targeting monthly bond purchases of 15 billion kronor ($1.8 billion) to 20 billion kronor.

Small Market

“The program initially will probably be focused on government bonds, but the relatively small size of the Swedish local currency government bond market may create complications,” Tina Mortensen, an economist at Citigroup, said in a note. “The Riksbank may from the outset include index-linked debt and/or foreign currency debt.” The bank may need to included these should the QE program expand beyond 150 billion kronor to 200 billion kronor, she said.

As part of its preparation for QE, the Riksbank has spent two years building up a portfolio that has reached 11 billion kronor in mainly government bonds, Jochnick said last week. That would allow it to buy bonds “quickly and simply,” she said.

“You need to see how much you can do in the government bond market,” she told reporters. “It also needs to function. You can’t buy too much, because then there would be too little liquidity in the market.”

It’s also the Riksbank’s view that “Sweden is doing better, we have underlying growth and demand in the economy,” Jochnick said. “We cannot compare ourselves to Europe.”

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