News & analysis

The Riksbank has kept rates unchanged at 3.75%, as was widely expected, in their latest policy decision. A downward revision to the path for rates, however, was more dovish than many had anticipated, with the Riksbank now projecting between two and three cuts in the second half of the year. Barring any major data surprises, a cut in August now looks close to a done deal.

This has seen the krona modestly weaken following this morning’s announcement. That said, with EURSEK remaining well below the levels likely to concern policymakers, and the broader economic backdrop likely to become more constructive for the krona moving forward, we doubt the reaction in the currency market will do much to constrain the Bank’s decision making over their upcoming policy meetings.

Turning first to rates, the Riksbank’s decision to maintain the policy rate at 3.75% was in line with both consensus expectations and the Bank’s own prior guidance. Indeed, sell-side economists were unanimous in calling for no change in rates this month. Instead, the outstanding question for most was over the pace of easing going forwards. Policymakers had offered strong signals in both the March MPR and at the May policy meeting that there would be two further rate cuts in the second half of the year.

Even so, risks ahead of today’s decision arguably skewed towards a more dovish tone from policymakers in Sweden, which ultimately crystalised.

Inflation developments were behind the Riksbank’s more dovish policy projections. Price growth has been tracking below Riksbank forecasts in recent months, and while the May CPI data overshot expectations, a point recognised in today’s policy statement, the broader picture remains one where inflation is converging back to target faster than the Executive Board had previously anticipated. With this in mind, Bank staff downgraded their inflation projections in the June MPR. CPI growth is now projected at 3.1% in 2024, versus 3.5% back in March, while the CPIF measure is expected to fall back to the Bank’s target of 2.0% by the end of this year, down from 2.3% previously. While a downgrade to the inflation path had been widely expected given the better than anticipated disinflation progress, it was even more notable that this was set against a more dovish policy path. This now suggests a roughly 75% chance of a rate cut in August, a full rate cut by September, and between two and three rate cuts projected for the second half of the year in total. To us, this reflects a dovish bias in the Bank’s current reaction function, with policymakers likely cognisant that the recovery in the domestic economy remains fragile.

As such, we are inclined to think there is now a high bar for the Bank not to cut rates in August, especially with two inflation readings due, providing ample opportunity for the Executive Board to see inflation continue to cool.

Where there are upside risks to these latest projections, weakness in the krona weakness garnered a lot of attention, alongside foreign inflation pressures and geopolitical unease, and was a point touched on in Governor Thedeen’s press conference too. While concerns over SEK depreciation had kept the Riksbank cautious at previous meetings this year, the Executive Board is likely to take soft comfort from traders’ reaction to today’s decision, with EURSEK posting only a modest 0.3% gain despite the dovish shift in policy expectations. Moreover, with the broad backdrop likely to turn more constructive for the krona in the coming months, we doubt that exchange rate risks will constrain the Bank’s decisions in the second half of the year.

We do, however, expect that the Riksbank’s dovishness will see SEK underperform its neighbour NOK, with the Norges Bank’s hawkishness increasingly at odds with the tone of their Swedish counterparts. We expect this divergence to push NOKSEK above parity in Q3.

Riksbank staff delivered a notable downgrade to their inflation forecasts in the June MPR, underpinning a similar dovish adjustment to the projected rate path 

 

Author: 
Nick Rees, FX Market Analyst

 

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