Questions and answers about the Swedish krona exchange rate

The Riksbank receives many questions about the weakening of the krona and what the Riksbank can do. This is how it works!

 

Why is the krona so weak at the moment?

The weakening of the krona is primarily linked to the international financial crisis. In times of financial turbulence with considerable uncertainty regarding, for instance, exchange rates, small currencies like the Swedish krona tend to weaken.
It is difficult to explain the recent weakening of the krona on the basis of, for instance, differences in productivity, GDP growth or the development of the current account. Compared with other countries Sweden has a strong starting position, with a large surplus in the current account and strong public finances.

 

The weakening of the krona is assessed to be temporary and the krona will strengthen over the coming years and return to more normal levels.

 

Does the Riksbank have a target for the krona’s exchange rate against other currencies?

The Riksbank has a target for inflation, but no target for the krona. Up until November 1992 monetary policy was governed by a target for the krona, that is, a fixed exchange rate. Since then our currency has floated freely and monetary policy has been governed by the two-per cent inflation target.

 

As the Riksbank does not have a target for the exchange rate, it does not have any set ideas as to what is a desirable level for or change in the exchange rate. With a given repo rate path a weaker krona means that monetary policy will be more expansionary, unless something else changes. If the Executive Board of the Riksbank’s assessment is that the weakening of the krona and other circumstances mean that monetary policy will be too expansionary with an unchanged repo rate path, the Riksbank will change the repo rate path at the next monetary policy meeting so that monetary policy is less expansionary.

 

Who decides whether there will be an exchange rate target?

The Government is responsible for general exchange rate policy issues and determines the exchange rate regime. However, before the Government takes a decision on an exchange rate regime it consults with the Riksbank.

 

What affects developments in the exchange rate in the long-term and short-term?

In the short term the exchange rate is primarily determined by various changes in the financial markets, which in turn depend on the expectations and risk assessments made by market participants. In the longer term, the monetary policy conducted in Sweden and abroad plays the most important role. The exchange rate is determined in the long term by how price levels in different currency areas develop in relation to one another, and thereby by the countries' inflation targets. In addition, fluctuations in exchange rates may be due to a need to correct imbalances in foreign trade. Sweden has long had a current account surplus which should in time lead to the krona strengthening. 

 

What happens to inflation when the krona weakens?

The krona affects inflation directly through import prices for the goods used by companies in manufacturing and the goods sold directly to consumers. Moreover, the value of the krona affects inflation indirectly through inflation expectations and the demand for Swedish goods. The size of the impact of the weaker krona on inflation depends to a large degree on whether companies perceive the weakening to be temporary or lasting. The size of the impact is also affected by the competition situation.  If it became apparent that the krona was lastingly weak, this could cause inflationary impulses. The Riksbank may then need to maintain a higher repo rate so that inflation does not become too high in relation to the target of two per cent.

 

In what way does the Riksbank’s monetary policy affect the development of the krona?

If the Riksbank cuts the repo rate more than central banks in other countries cut their policy rates the krona will tend to weaken, at least temporarily. However, the Riksbank’s recent repo rate cuts can only explain a small part of the weakening of the krona. Many other central banks, such as the US Federal Reserve, the Bank of England and the Swiss National Bank have cut their policy rates even more than the Riksbank without their exchange rates weakening to the same extent as that of the Swedish krona.

 

Are there winners and losers when the krona weakens like this?

From a monetary policy perspective the weakening of the krona can contribute to counteracting the economic downturn by stimulating the export sector. Domestic service industries such as hotels and restaurants and other tourist businesses also benefit from a weaker krona. At the same time, a lastingly weaker krona entails inflation risks. More generally, it is not desirable to have large fluctuations in exchange rates as it then becomes more difficult to make international price comparisons, which in turn may lead to various markets functioning less efficiently. At the same time, one must count on a floating exchange rate fluctuating relatively much in the short term as a result of changes in supply and demand on the foreign exchange markets. The winners are normally the owners and employees of companies that have a large part of their sales in foreign currency while their production costs are in Swedish krona. Domestic companies in certain service industries that compete with companies abroad for Swedish and foreign tourists can also usually be said to be winners.

 

How is the value of the krona measured against other currencies?

The TCW index (Total Competitiveness Weights) is a way of measuring the value of the krona against a basket of currencies belonging to our most important trading partners. By studying the TCW index, you can see how much the value of the krona has changed. A high value in the TCW index means that the krona is weak and a low value means that the krona is strong. The TCW is a geometric index and its weights are based on the average aggregate flows of processed goods for 21 countries. The weights take into account exports and imports, as well as third-country effects. They are calculated by the International Monetary Fund (IMF).