Nordic Outlook: Muted global growth amid extreme yields

Nordic Outlook: Muted global growth amid extreme yields

Sweden: Riksbank on hold despite low inflation

The global economy is seeing a noticeably pessimistic bond market and increased uncertainty due to trade and geopolitical issues. A lengthy manufacturing slump and escalating trade wars will cause yearly global growth to slow from nearly 4 per cent in 2018 to just over 3 per cent during the period 2019-2021. Yet our main scenario is still that outright recession will be avoided. Moderate debt is lowering the risk of contagion from the weak manufacturing sector to the overall economy. Low inflation is giving central banks room for stimulus, and US Federal Reserve (Fed) interest rate cuts are lowering the risk of policy mistakes. Meanwhile the Swedish economy is entering a phase of slower growth, despite support from both monetary and fiscal policy. Unemployment will climb to 7 per cent by the end of 2020, and for the first time in years the upturn will be driven by weak job growth and not by rising labour force participation. Due to weak economic conditions, low inflation and even more expansionary policies by the European Central Bank (ECB) and the Fed, Sweden’s Riksbank will be forced to retreat from its rate hiking plan. The EUR/SEK exchange rate will move towards 11.00 by the end of 2019. 

Increased global downside risks from trade war, but no recession

Financial markets have been highly dramatic in recent months. This applies, above all, to the radical repricing in the bond market. Developments in the real economy have been far less dramatic, however. Although manufacturing has continued to weaken and global trade growth has stagnated, the domestic economy has been resilient in most countries. The manufacturing slump has become more prolonged. Combined with an escalation of the trade war, this has led SEB’s economists to revise their global GDP growth forecast 2 tenths of a percentage point lower for 2019 and 3 tenths for 2020 − bringing them to 3.1 per cent and 3.2 per cent, respectively. These downward adjustments mainly apply to emerging market (EM) economies and the euro area, which are being pulled down as the Chinese economy again decelerates and the German “export engine” sputters. As for the United States, we are still forecasting a gradual slowdown to somewhat below trend growth, as the tight labour market sets a limit on the expansion and the effects of President Donald Trump’s tax cuts fade.

Meanwhile our main scenario is that an outright recession can be avoided. We expect the Fed to change strategy and follow up its July key interest rate cut with three more “insurance cuts” in the coming year, decreasing the risk that policy mistakes will trigger a recession.  Low inflation − despite unemployment at 40-year lows in advanced economies − is giving central banks manoeuvring room to continue supporting the economy. The ECB will lower its deposit rate for banks in two 10 percentage point steps to -0.60 per cent and will restart its asset purchase programme. Moderate debt in the private sector will also decrease the risk that the manufacturing slump will trigger a global recession. Political uncertainty has continued to increase, but such factors in themselves have rarely caused recessions. Yet, downside risks are bigger today than before. The trade war (and other conflicts) between the US and China continues to escalate, increasing the risk of more lasting negative growth effects, due to disruptions in global supply chains and the trade system. A traumatic Brexit process (British withdrawal from the European Union) and various geopolitical trouble spots are adding to the risk picture.        

Entrenched low yields, moderately lower USD and squeezed equities

Central bank stimulus measures imply that the global low-yield environment will become entrenched: 10-year US Treasury yields will keep falling somewhat and German yields will remain extremely low. The downward movement will be amplified by structural and regulatory-related forces. For example, life insurance and pension fund companies need to offset growing liabilities as discount rates fall. The dollar usually benefits from a global slowdown, yet the EUR/USD exchange rate will climb moderately to 1.20 as the Fed eases its monetary policy. Investor worries about growth and trade have caused share prices to fall. If our growth forecasts prove correct, stock markets still have room to keep climbing, although valuations now seem relatively high in the prevailing late-cyclical and more uncertain environment.

This issue of Nordic Outlook also includes in-depth theme articles on five topics: trade war & peace, recession risks, the auto industry, Brexit and the Swedish wage round. 

Norway fastest growing among the Nordics; Baltic economies will slow

Norway’s economy will grow faster than that of the other Nordic countries in 2019-2021. Positive impulses from the oil sector continue to drive the economy, and a favourable labour market is supporting private consumption. Growth in the mainland economy (excluding oil, gas and shipping) will accelerate from 2.2 per cent last year to 2.6 per cent this year. Waning petroleum sector contributions will slow growth to 2.1 per cent in 2020 and 1.9 per cent in 2021. Norges Bank is going against the central bank current, delivering a final key rate hike in Norway this autumn. Falling interest rates are enabling Danish households to refinance their mortgage loans and − together with modest fiscal expansion − will support domestic demand. Denmark’s GDP will grow by nearly 2 per cent this year, followed by a gradual slowdown to 1.5 per cent in 2021. Looking ahead, Finland’s manufacturing sector will be hampered by euro area weakness. Rising employment and somewhat faster pay hikes will nevertheless enable Finnish GDP growth to stay at around 1.5 per cent during 2019-2021.

In the Baltic economies, growth will cool significantly as exports weaken and capital spending appetite fades. In Lithuania, growth will remain around 3.5 per cent this year but then slow to around 2.5 per cent in 2020 and 2021. Latvia will decelerate from nearly 5 per cent last year to 2.0-2.5 per cent during 2019-2021. Estonia’s growth will gradually slow from nearly 4 per cent last year to 2 per cent in 2021.

Sweden: Rising unemployment – Riksbank retreating from hiking plan

The Swedish economy is entering a phase of slower GDP growth, despite support from both monetary and fiscal policy. The downward revision in our full-year 2019 forecast is only 0.1 of a percentage point; we now foresee a 1.5 per cent GDP increase. However, we are lowering our growth forecast for next year by 0.4 points to 1.3 per cent. In 2021 the economy will accelerate to 1.7 per cent, in line with somewhat better international growth. The current slowdown is being confirmed by signs of rising unemployment. For the first time in years, this upturn is driven by weak job growth and not by rising labour force participation. Joblessness will climb from 6.3 per cent in the first half of 2019 to 7.0 per cent by the end of 2020.

Manufacturers have been resilient, helped by a weak krona, but future exports will probably be hampered by weak demand from the European markets that buy 70 per cent of Swedish merchandise exports. Home construction is about to bottom out, but because of lags, residential investment will keep falling during most of 2020. We expect slightly rising home prices throughout our forecast period. In spite of a decent purchasing power trend, households will remain cautious amid shaky economic conditions and rising unemployment. Consumption growth has almost stagnated so far this year. Overall,we expect private consumption to increase by around 1.5 per cent yearly in 2020-2021, which is weak considering Sweden’s rapid population growth.

In an international perspective, Swedish public finances show continued strength, though surpluses will fall in the next couple of years. The January Agreement with the Centre and Liberals guarantees the red-green government of Social Democrats and Greens a majority for its budget, but there are still tensions. Our forecast is that fiscal stimulus measures will total about 0.5 per cent of GDP in 2020 and 2021.

Sweden’s next national wage round in early 2020 will take place in an environment of falling resource utilisation. Since inflation expectations are higher and international wage and salary increases are speeding up slightly, we expect 3-year collective agreements that include annual pay hikes of 2.5-2.6 per cent. Yet because wage drift above these contractual increases will remain subdued and international price increases will be low, inflation will fall below the Riksbank’s 2 per cent target throughout our forecast period. Due to weak growth, low inflation and even looser ECB and Fed policies than before, the Riksbank will be forced to retreat from its planned rate hikes and will keep its key interest rate unchanged until mid-2021. To persuade the bank’s Executive Board to cut the key rate − as the pricing in the fixed income market indicates − would require a more dramatic economic downturn. Our forecast is that the Riksbank will extend its bond purchases when the current programme expires at the end of 2020 and will continue to hold about 50 per cent of all nominal Swedish government bonds. The yield spread will still widen due to ECB stimulus measures. So far in 2019, the krona has again been the weakest of the G10 currencies. We now expect the Riksbank to revise its rate path sharply lower and to deliver no rate hike until the second half of 2021. This will further push down the krona. An uncertain international environment, including risks of worsening trade conflicts, is not helping the krona either. Our forecast is that the EUR/SEK exchange rate will move towards 11.00 by the end of 2019. The krona is clearly undervalued, especially against the dollar, which suggests some appreciation further ahead, even though the krona’s equilibrium exchange rate has probably weakened during the past decade. At the end of 2021 the EUR/SEK exchange rate will reach 10.00. 

Key figures: International & Swedish economy (figures in brackets are from the May 2019 issue of Nordic Outlook)

SEB is a leading Nordic financial services group with a strong belief that entrepreneurial minds and innovative companies are key in creating a better world. SEB takes a long term perspective and supports its customers in good times and bad. In Sweden and the Baltic countries, SEB offers financial advice and a wide range of financial services. In Denmark, Finland, Norway, Germany and the United Kingdom, the bank's operations have a strong focus on corporate and investment banking based on a full-service offering to corporate and institutional clients. The international nature of SEB's business is reflected in its presence in some 20 countries worldwide. On June 30, 2019, the Group's total assets amounted to SEK 2,912 billion while its assets under management totalled SEK 1,932 billion. The Group has around 15,000 employees. Read more about SEB at https://www.sebgroup.com