Heikensten: Activity weak but policy expansionary

First Deputy Governor Lars Heikensten addressed the American Chamber of Commerce in Sweden today and spoke about monetary policy in Sweden.

"The main scenario in the Inflation Report the Riksbank published some weeks ago can be said to constitute a fairly normal cyclical development. In the rest of this year and the early part of 2002, economic activity will continue to weaken in Sweden as well as abroad. The slowdown in manufacturing will spread to the rest of the economy, accompanied by an appreciable fall in the labour market. Towards the middle of next year, however, we expect to see an upturn. This is partly because the normal cyclical adjustments to stocks, investment and so on will then have come some way but it also has very much to do with the marked expansionary realignment of economic policy in industrialised countries," Mr Heikensten said.

"The overall picture from the economic statistics on developments abroad is slightly more gloomy than we counted on, as regards both the United States and Europe. The available indications of international price tendencies point to a somewhat weaker outcome in this respect as well. In Sweden, both producer and consumer prices have been in line with our forecast, possibly marginally weaker. There are good reasons in general for a cautious interpretation of the incoming statistics. At least to some extent, they mirror a rather extreme period immediately after the events on 11 September. We are now working on the foundations for the next Inflation Report. It will contain a new overall assessment of all the available information and a new forecast," Mr Heikensten continued.

"The interest rate cuts by the Federal Reserve and the European Central Bank have generated a renewed discussion about monetary policy and raised the question of whether the Riksbank ought to follow suit. I therefore want to underscore that our policy is determined essentially by our own assessment of prospects for inflation in Sweden, not by what other central banks do. Consequently, in recent years our interest rates have been appreciably lower than in the United States and also lower at times than in the euro area. In a country comparison of monetary policy it should also be borne in mind that conditions may differ in many other respects. There may be a good deal of difference in, for example, the stimulus from the exchange rate or from economy policy," Mr Heikensten said.

"During the past year the Swedish krona has depreciated substantially against the US dollar and the euro, for example. In relation to reasonable long-term equilibrium rates, the krona is also very weak, the euro presumably somewhat weak and the dollar strong. With all else equal in a country comparison, just these exchange rate disparities could warrant considerable differences in monetary policy. Swedish fiscal policy is also providing a sizeable economic stimulus. Compared with other countries, our public sector's structural financial balance is deteriorating markedly both this year and next. Moreover, both this and next year's change in the public sector's total financial balance is large in an international perspective. A look at household disposable income shows a similar picture. Notwithstanding the weaker economic situation, disposable income is rising strongly, mainly due to an appreciable net contribution from taxes and transfers," Mr Heikensten said.

The public sector surplus that Sweden built up during the economic boom is now giving us some room to manoeuvre in this respect that many other countries in Europe do not have. Considering the very weak exchange rate, moreover, there can be a case for providing some of the economic stimulus that is conceivably needed via fiscal measures rather than through lower interest rates; all else equal, that should help to strengthen the exchange rate. At the same time, it is advisable not to be over-confident about the effectiveness and capability of economic policy in a situation like this. In the longer run the magnitude of the measures is presumably not as important as whether they promote long-term growth. Another important requisite is a readiness for a rapid economic policy realignment if the economy shows signs of turning upwards, a responsibility that in practice is likely to rest in the first place on monetary policy," Mr Heikensten concluded.