Ohlsson: Decision today, consequences far into the future
In recent years, interest rates have been at their lowest level in modern times. For a person who takes on debt, it may therefore be useful to remember that lending rates will reasonably be 3-4 times higher in the long run than they are now. A decision taken today can thus have major consequences far into the future. This was pointed out by Deputy Governor Henry Ohlsson on Friday when speaking at a breakfast event organised by Swedbank.
Many central banks have cut their policy rates to historically low levels to stimulate demand and get inflation to rise. The global fall in interest rates naturally has consequences for monetary policy in Sweden, too. The Riksbank's forecast is that the repo rate will remain at the low level of -0.5 per cent until around the end of June/beginning of July 2017 - and then slowly begin to rise. This means that most of those who save or borrow for consumption and investment will receive or pay low interest rates in the coming years. However, many financial decisions have consequences that extend further into the future. This applies, for instance, to households who now borrow money to buy a home.
Growth, savings and technology determine the real interest rate
Mr Ohlsson discusses in his speech different explanations for the low global interest rates using as a starting point the long-term nominal interest rate, which is the one we normally pay. This is determined by the long-term real interest rate and the inflation target.
The real interest rate – that is, the nominal interest rate minus the expected rate of inflation – is in turn determined in the long run by structural factors, such as savings and investment. And in a small, open economy like Sweden's, these factors are primarily determined internationally.
Monetary policy has an influence on the rate of inflation and inflation expectations. If the inflation target is perceived as credible, long-term inflation expectations will coincide with the inflation target. On the other hand, monetary policy does not have any marked effect on the real interest rate in the long run.
Nominal interest rates will become higher in the future
Given this, Mr Ohlsson discusses questions with a bearing on the level of the long-term nominal interest rate. Why have real interest rates shown a falling trend for so long? If and when the trend reverses, what will be the consequences? In the light of the experiences in recent years, could there also be a need to reconsider the level of the inflation target?
Although it is not possible to give any decisive answers today, we nevertheless need to be prepared, when making financial decisions, for the future global real interest rates to be in the order of 1.5-2.5 per cent. "If we add to this an inflation target and inflation expectations of 2 per cent in Sweden, we come to the conclusion that the repo rate could be around 3.5-4.5 per cent. In the future, the interest rates on these loans could thus be three or four times higher than the current mortgage rates," concludes Mr Ohlsson.
