Nordic Outlook: Soft landing possible, very little growth momentum

Growth will be anaemic in 2023 and 2024, but the global economy will still experience a relatively soft landing as the United States − among other countries − avoids a recession. Inflation is falling, and the important question for central banks is no longer how many key interest rate hikes remain, but when their first rate cuts will occur. However, the economic outlook will continue to be weighed down by geopolitical turmoil, extreme weather, increased trade barriers and a flare-up of subsidy competition between the US and the European Union. The economic outlook for China has also deteriorated. In Sweden, GDP will fall by 1.2 per cent this year due to weak households and a deep decline in housing construction, followed by essentially zero growth in 2024. The Riksbank is being squeezed by the weak krona, but falling inflation suggests that its September policy rate hike will be the last.

“We foresee relatively good potential for avoiding an economic hard landing. Meanwhile we must not forget that we are living in unique economic times and cannot rule out that, for example, the record-fast key rate hikes of the past 18 months may have a larger negative impact on the world economy than we have seen so far," says Jens Magnusson, Chief Economist at SEB. 

Global deceleration at varying speeds
High inflation and rapid interest rate hikes have had a substantial economic impact on the euro area and especially on its former growth engine Germany, which is being weighed down by the energy price shock and by weak global industrial demand. Our forecast is that the euro area economy will basically stagnate for the rest of this year, followed by weak growth in 2024. In contrast, we are significantly upgrading our US forecast after unexpected economic resilience this past spring. As a result, our growth forecast for the 38 mainly affluent OECD countries has been revised upward to 1.4 per cent, from 0.9 per cent in the May issue of Nordic Outlook. We are lowering our 2024 OECD forecast slightly, to 1.2 per cent from 1.4 per cent, since we expect labour markets to weaken and US households to begin applying the brakes on spending. In 2025, when inflation has fallen further and interest rates are lower, growth will accelerate back to slightly above trend. We are lowering our GDP outlook for China after last spring’s disappointing growth. Weak domestic demand, a troubled real estate market and a government that is holding back on stimulus are some of the problems. Thus, China’s recovery will not add much momentum to the world economy. 

“The overall picture is mixed. There are several challenges, but the situation is far from hopeless. At the same times as inflation is falling, labour markets in many countries remain characterised by high employment and low jobless rates. Furthermore, consumption has been holding up in nominal terms, and worries about the financial system have clearly decreased compared with what we experienced during the spring’s banking sector problems in the US and Switzerland,” Jens Magnusson says.       

Inflation will fall to target, with only moderately higher unemployment
Rapid interest rate hikes, along with supply-side normalisation in the economy, have had an impact on inflation. Weaker economic activity and household incomes continued, high interest rates, and base effects as last year’s large increases in food and energy prices vanish from inflation metrics, suggest that inflation will keep falling this autumn and next year. The decline in core inflation − excluding food and energy − will be more protracted, but it will also be back at central bank targets by the end of our forecast period. 

“The inflation downturn we are now seeing is very welcome, but the important question is whether we will make it all the way to the finish line, or whether a stronger economic slump will be necessary to complete the difficult ‘last mile’. Our conclusion is that a relatively mild upturn in unemployment should be sufficient for wage pressure to decelerate and end up in line with inflation targets,” says Daniel Bergvall, Head of Economic Forecasting at SEB. 

Fed will be first with key interest rate cuts during 2024
Although some central banks may have one or more rate hikes left, the focus of attention has shifted to the dates when rates cuts will begin. The US Federal Reserve will go first by starting to cut its key rate in May next year, somewhat later than previously expected, followed by the European Central Bank in mid-2024. The key interest rate spread between the Fed and the ECB will gradually narrow, and at the end of our forecast period both the Fed and the ECB key rates will stand at 2.50 per cent, which is broadly neutral. Due to the challenges of an overheated labour market and rapid pay increases, the Bank of England will keep its key rate at the peak for longer. The Bank of Japan’s monetary policy shift is happening slowly, but the BoJ will abandon its negative key rate later this autumn. Long-term government bond yields usually peak slightly earlier than key rates, but this time their downside potential is limited because long-term yields are currently at relatively low levels in relation to key rates. In addition, downward movement in long-term yields will be limited by high private and public debt and by the quantitative tightening (QT) policies of central banks. This autumn will begin with further US dollar strength, which will fade as the market focuses increasingly on interest rate cuts. When the euro begins an upward trend against the USD, the Swedish krona may also receive support against the euro, given historical patterns. A Swedish fiscal policy that promotes investments in infrastructure, for example, may also help to strengthen the krona in the long term. 

Sweden: Continued downturn but reduced risks 
The Swedish economic picture was mixed this past spring, but due to a weak second quarter and a renewed decline in business confidence, our pessimistic forecast from the May issue of Nordic Outlook still stands. We expect GDP to shrink by 1.2 per cent this year and to grow by a marginal 0.1 per cent in 2024. In 2025, growth will accelerate to 2.5 per cent, a bit above the historical trend. The manufacturing sector will enjoy some support from the weak krona, but this will not be enough to avoid a downturn if economic activity weakens abroad, especially in important Swedish export markets.

“Weak sentiment indicators in the German manufacturing sector are cause for concern. Germany is the largest recipient of Swedish merchandise exports, and a deeper downturn there would have a major impact on Sweden,” Daniel Bergvall says.

Sharp drop in Swedish residential construction
The capital spending outlook is dominated by a sharp decline in housing investments, which looks set to be even larger than we anticipated in May. We expect residential construction to almost halve by the fourth quarter of next year. Home prices have stabilised during 2023, but we believe they will fall again during the autumn. So far prices have fallen by some 10–12 per cent and we expect a total price decline from peak to bottom of about 15–20 per cent before a more sustainable recovery. 

Large fall in Swedish consumption despite resilient households 
How Swedish households react to rising costs and higher interest rates will determine the depth of the economic downturn. We expect the slide in consumption to be on a par with the deep recession of the early 1980s and 1990s. But unlike those periods, households have continued to increase their consumption in nominal terms, partly by reducing their savings. The labour market will be a decisive factor for households. So far, indicators are pointing to a moderate deceleration. We expect slightly falling employment next year, while the jobless rate will climb to slightly above 8.5 per cent.     

“Decelerating inflation and the fact that we will soon reach the Riksbank’s interest rate peak suggest that the risks of an even deeper decline in consumption have diminished. Real wages will probably increase somewhat this autumn,” Daniel Bergvall says.

Swedish inflation will fall faster this autumn 
Falling energy prices have caused CPIF (CPI with constant interest rates) inflation to fall rapidly. Due to lower electricity prices and base effects, CPIF looks likely to end up close to the Riksbank’s 2 per cent target by the end of the year, albeit temporarily. The decline in CPIF excluding energy has been sluggish, partly due to temporary upward pressure from international travel during the summer. Because of base effects from food and other goods, underlying inflation will fall faster this autumn. But how far and fast the downturn will be is uncertain. Cost pressures on businesses are expected to ease substantially. The outlook for service prices is more uncertain. Rents and tenant owners’ association fees will exert upward pressure next year and to some extent also in 2025. A weak krona will delay the decline in inflation, but historical correlations indicate that this effect is limited − just over 0.5 per cent for core inflation − and that international price trends will be more important. Our forecast is that CPIF excluding energy will temporarily fall below the Riksbank’s target by the end of 2024 as food and other goods prices partially reverse their earlier upturn.   

A final Riksbank rate hike in September 
Core inflation has been slightly higher than the Riksbank’s forecast and we foresee a high probability of a rate hike in September, in line with the rate path the central bank announced in June. This will be the last rate increase. Because the Fed and the ECB will have stopped hiking their key rates, it will be easier for the Riksbank to stop. When core inflation approaches its target in mid-2024, the Riksbank will cut its policy rate. By the end of 2025 it will stand at 2.5 per cent.   

“The weak krona is an upside risk for the policy rate, since several members of the Executive Board have said that a further weakening could lead to additional rate hikes. But if further tightening is needed, we believe that the Board prefers to increase bond sales instead,” says Jens Magnusson. 

Because central government debt is low, Sweden has plenty of room for expansionary fiscal policy, but the
government has signalled that it will continue to pursue a restrictive fiscal policy, so as not to delay the
downturn in Sweden’s high inflation. In line with the government’s latest proposal from the Harpsund budget negotiations, we expect about SEK 40 billion worth of new initiatives in the 2024 budget bill that the government will submit to Parliament a few weeks from now − an amount that will rise to about SEK 80 billion in the 2025 budget. Net lending this year appears likely to end up close to zero. Due to weaker economic activity and higher fiscal stimulus, the Swedish public sector will run a deficit of nearly 2 per cent of GDP in 2024 and less than 1 per cent in 2025.

“These are not problematic levels, given our strong central government finances," Jens Magnusson says.

Key figures: International & Swedish economy (figures in brackets are from Nordic Outlook, May 2023)

All about Nordic Outlook