Bergström: Risk of higher inflation but above all great uncertainty

Deputy Governor Villy Bergström spoke today at a meeting organised by Sparbanksstiftelsen in Västervik. Mr Bergström's speech included an account of the assessments in the March Inflation Report and the motives behind the decision to lower the repo rate.

"It was observed in the Inflation Report presented by the Riksbank in March that the continued international uncertainty with falling share prices and the risk of a war in Iraq had led to some deterioration in economic prospects. The international economic recovery was expected to be slower and more protracted. Developments in several of the large euro countries have been weak and the prospects of a clear recovery have deteriorated. However, economic developments in the USA appear to be more robust, with rising profits and continued good development in productivity. International developments will lead to a slightly slower growth in Swedish exports than expected. Moreover, this year households' purchasing power is expected to be subdued by the recent increases in municipal and county council taxes, higher energy prices and rising unemployment. Growth in the Swedish economy is assessed as fairly weak this year, or a rate of approximately 1.7 per cent, with around 2.5 per cent during the following two years when manufacturing activity picks up in Sweden and internationally," said Mr Bergström.

"Despite the slightly weaker economic activity, inflation has risen sharply since the December Inflation Report, and amounted to 3.3 per cent in February. This is essentially due to rising energy prices and in particular the substantial increase in electricity prices. However, the energy price rise is assessed to be of a temporary nature and prices are expected to fall back during the spring. The forecast in the main scenario of the Inflation Report indicates an average rate, excluding energy prices, of 2 per cent over the coming two years. However, the rise and expected fall in energy prices mean that UND1X inflation one to two years ahead is expected to be 0.8 per cent and 1.8 per cent respectively. It is mainly the development of energy prices that is anticipated to cause fluctuations in inflation during the forecast period," said Mr Bergström.

"At the moment it is even more difficult than usual to assess future economic developments as a result of the war raging in Iraq. Financial pricing as well as companies' and households' expectations of the future have been negatively affected for a longer period now by the tense geopolitical situation. The war is now into its third week and it is still too early to rule out either the possibility of a poorer or better development than in the main scenario in the Inflation Report," observed Mr Bergström.

"Apart from the risks connected to the war, there are also other risks. For instance, there is some possibility that energy prices will have a greater effect on other prices than we had anticipated or that they will not decline as quickly as was assumed. The energy prices could give rise to demands for compensation in the wage bargaining rounds starting in the autumn. White-collar workers' salaries have increased more rapidly than those of blue-collar workers, and this could also lead to demands for compensation. These tensions could also obstruct coordination within the Swedish Trade Union Confederation in the autumn wage bargaining rounds. There is a risk that the nominal wage agreements signed at trade union level will push up inflation. As everything must be included, the wage cost scope only amounts to around 1.5 per cent at trade union level, according to a group of economists from central labour market organisations. At the same time, it should be remembered that resource utilisation has fallen, which means that upward pressure on wages from a high demand for labour has declined. However, given the risk of compensation demands in the wage bargaining rounds, I voted with some hesitation in favour of lowering the interest rate at the most recent monetary policy meeting," said Mr Bergström.

"I also feel some concern over developments in the property market, given the high burden of debt in certain regions and a low interest rate to begin with. Lowering the interest rate risks pushing up property prices even further. There is a risk that households in the most expansive regions will get into difficulties when the interest rate rises as a result of an upturn in economic activity and deteriorating central government finances in Sweden and especially the USA," asserted Mr Bergström.

"The appropriate future repo rate will depend, of course, on continued economic developments in the wake of the Iraq war, but also on the expected direction of economic policy as a whole. In this context, it is worth noting the budget agreement reached between the government and its cooperation partners, which indicates that the stabilising principles, which have governed budget policy in recent years still stand," concluded Mr Bergström.

 

Contact: Tomas Lundberg, Press Officer, tel. +46-8-787 02 15

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