SEB:Nordic Outlook: Unprecedented halt, despite record stimulus

Nordic Outlook: Unprecedented halt, despite record stimulus 

Sweden: Smaller decline in GDP due to gentler lockdown strategy

The COVID-19 pandemic has brought the world economy to an unprecedented halt. Record-sized government and central bank stimulus measures will have their main impact only after a delay. This autumn, unemployment will climb to levels not seen since the 1930s. According to the main scenario in SEB’s new Nordic Outlook forecast, GDP in the developed countries will shrink by 7 per cent in 2020, followed by an upturn of 5 per cent in 2021. Despite a more V-shaped recovery than in comparable historical crises, the GDP level at the end of next year will be well below earlier forecasts − about 5 percentage points lower in the Organisation for Economic Cooperation and Development (OECD) − and unemployment will be far higher. Sweden’s relatively gentle lockdown strategy will limit the downturn in its economy compared to the other Nordic countries, but the nearly 7 per cent drop in GDP we expect this year is still the largest in modern times. Meanwhile unemployment in Sweden will climb to a record-high 14 per cent. General government debt will reach 50 per cent of GDP and the Riksbank expand its bond purchases by another SEK 300 billion.   

The consequences of the lockdowns will become apparent this autumn 

Differences in full-year 2020 GDP growth between countries will largely depend on how severely they are affected by COVID-19 and what lockdown strategy they have chosen. In countries like Italy, Spain and the United Kingdom, we expect GDP to fall by 10 per cent or more. Meanwhile the United States, Germany and Sweden will see downturns of around 6-7 per cent. China has already begun its recovery, most apparently in manufacturing, but the risk of new virus outbreaks and negative impulses from other countries will prevent the country’s full-year 2020 GDP upturn from exceeding 2 per cent. In the overall emerging market (EM) sphere, we expect GDP to fall for the first time since the Second World War.   

According to our main scenario, economies will open up gradually and cautiously starting in May, followed by a clear economic recovery in the third quarter of 2020, but a second wave of indirect effects will occur during the autumn as unemployment in various countries peaks at 10-15 per cent. Low capacity utilisation will hamper capital spending, while high unemployment will exert downward pressure on home prices and household consumption. Permanent shop closures and a reduction in the need for office space will hurt the commercial real estate market and create a risk of strains in banking systems. Despite seemingly impressive GDP growth in 2021, because of these forces the GDP level at year-end will be well below the forecasts that we made before the coronavirus outbreak. 

Downside risks connected to new virus outbreaks

Due to the exceptional uncertainty now prevailing, it is natural to work with various alternative scenarios. The main kind of uncertainty concerns how rapidly economies can actually reopen. Our negative scenario assumes that important parts of the economy do not restart during the second half of 2020 either. In that case, full-year GDP in the OECD countries will fall by about 12 per cent in 2020 as a whole, and unemployment will climb to around 20 per cent. In such a scenario, permanent business closures will put pressure on the financial system and economic policy makers will be forced into dramatic actions that we have not seen so far in peacetime. In our more positive scenario, the OECD downturn will be limited to 5 per cent as economies reopen earlier and economic stimulus measures have a larger impact.    

Vigorous economic policy responses create long-term uncertainties

Economic stimulus measures have been launched at a substantially faster pace than during earlier recession outbreaks. Our estimate is that the crisis packages unveiled by governments, central banks and regulatory authorities total USD 17.5 trillion (about 20 per cent of global GDP). This decreases the risk of depression-like developments but may have negative long-term consequences. Fiscal stimulus measures combined with plunging nominal GDP will cause public sector debt in many countries to climb by 15-20 per cent of GDP. Central bank policies in the US and the euro area will approach the Japanese example, as purchases of government securities continue and the borderline between fiscal and monetary policies becomes blurry. Forceful monetary expansion, combined with closed borders, will create new long-term inflation risks. In the short term, however, downward pressure from falling energy prices will dominate. Consumer price index (CPI) inflation will be around zero during the rest of 2020. 

The May issue of Nordic Outlook includes special theme articles that discuss the consequences of today’s historically far-reaching crisis policies, various factors in the fight against COVID-19 that will determine the path towards normalisation in each economy and the impact of the pandemic on the EM economies.

Tensions between real-economy and financial market signals

Key interest rates converged around zero once the US and countries with some manoeuvring room aggressively lowered their interest rates, while other central banks seem disinclined to move further into negative key rate territory. Short-term interest rate hikes now appear very distant as inflation, in the short-term, is pushed downward. Meanwhile central banks have become more accepting of inflation target overshooting. There is great uncertainty about long-term bond yields: rising inflation expectations suggest somewhat higher yields ahead, despite central bank bond purchases. The narrowing of interest rate and yield spreads will help undervalued currencies to regain lost ground and will eventually weaken the US dollar as risk appetite normalises. Central banks’ liquidity injections and their willingness to buy corporate bonds as well have helped to decrease financial market stress. Stock markets have recovered as investors have shifted their attention from the short-term collapse in economic growth to hopes of good corporate earnings on the other side of the crisis. In an increasingly solid low interest rate environment, it is also easier to justify historically high share price valuations. But stock market optimism still contrasts more and more clearly with the gloomy economic picture, and it will genuinely be put to the test this autumn as unemployment keeps climbing and as home and commercial real estate prices fall and capital spending activity declines.  

Lockdowns are hurting the Nordic and Baltic economies

The COVID-19 outbreak, combined with the collapse in oil prices, will have a major negative impact on the economy in Norway. Mainland GDP (excluding oil, gas and shipping) will contract by 7.4 per cent in 2020, followed by a 5.2 per cent rebound in 2021. Despite a forceful policy response, the economic recovery will be slow and will be hampered by falling petroleum sector demand and high unemployment. Lockdowns have enabled Denmark to avoid a major virus outbreak, but the economic consequences have been severe. GDP will fall by 10 per cent in 2020, followed by a 9 per cent upturn in 2021. In Finland, lockdowns and their secondary effects are amplifying an economic downturn that had already begun earlier. GDP will fall by 9 per cent this year, followed by a 5 per cent upturn in 2021. More actions will be needed to keep the Finnish economy from lagging behind other countries in its recovery phase. The coronavirus will also lead to large GDP declines in the Baltic economies, but the consequences will still be less severe than during the global financial crisis of 2008-2009. GDP will fall by about 9 per cent this year in Lithuania and Latvia and by nearly 10 per cent in Estonia, followed by upturns of between 5 (Latvia) and 6-6.5 per cent (Lithuania and Estonia) in 2021.

Sweden: Smaller decline in GDP due to gentler lockdown strategy

Because of Sweden’s gentler lockdown strategy, the decline in its economy will be smaller than in other countries, but this year’s 6.5 per cent drop in GDP will be the largest in modern times. After that, we expect GDP to increase by 5 per cent in 2021. The downturn in Sweden will thus be milder than in neighbouring countries that have imposed more extensive lockdown orders. A special theme article examines the differences in lockdowns between various economic sectors. We estimate that about 20 per cent of Swedish GDP disappeared at the peak of the lockdown in April, compared to 30-35 per cent in such countries as Italy and France. Sales data based on household debit cards suggest a gap of about the same size between Sweden and neighbouring Denmark and Norway.

The economic downturn is being driven primarily by labour-intensive service sectors. This is in contrast to the financial crisis of 2008-2009, in which capital-intensive export companies were hardest hit. The downturn in employment will not be as dramatic as during the early 1990s crisis, but the jobless rate will still reach a record-high 14 per cent this autumn. One explanation is that the upturn in unemployment during the 1990s began from a record-low level just over 1 per cent, but another is that labour market policy programmes were more extensive at that time.

Most Swedish manufacturing sectors have been able to maintain production, but demand has plummeted both in Sweden and abroad. We expect exports to fall by 15 per cent this year. Looking ahead, new challenges will arise because of disrupted supply chains and bottleneck risks. Capital spending and consumption will be hampered by indirect effects related to lower capacity utilisation, rising unemployment and falling home prices. Overall, we expect home prices in Sweden to decrease by 15 per cent, thus ending up 7-8 per cent less than their lows in late 2017. Residential investments will fall by about 15 per cent until mid-2021, followed by a stabilisation. Private consumption will decline sharply this year − by 5 per cent − driven by the lockdowns. Further ahead, consumption will be hampered by lower incomes and increased precautionary saving.

Sweden’s fiscal programmes have been in line with other countries. In all, direct stimulus measures are equivalent to about 3 per cent of GDP. However, the biggest item of the stimulus is loan guarantees for businesses and postponement of tax payments. We expect further stimulus equivalent to nearly 2 per cent of GDP to be launched during the rest of 2020 and in 2021. Together with relatively strong automatic stabilisers, this will increase the public sector deficit to 7-8 per cent of GDP: higher than during the financial crisis but not really on a par with the 1990s crisis. The deficit and the drop in GDP will push up the debt ratio to about 50 per cent of GDP by the end of 2021.    

The national wage round has been put on hold, and rising unemployment will probably also contribute to lower wage and salary hikes than we had previously expected. Falling energy prices have caused inflation to plummet. CPIF (CPI minus interest rate changes) inflation will end up close to zero for the rest of 2020. CPIF excluding energy will fall towards 1 per cent, but supply-side factors will subsequently lead to a more mixed situation. At its April policy meeting, the Riksbank expressed concerns about the downsides of negative key interest rates for households. This supports SEB’s view that the Swedish central bank will keep its repo rate unchanged at zero during the foreseeable future. Slow economic growth and inflation indicate that monetary policy must become even more expansionary. The Riksbank will also need to increase its government bond purchases in order to keep yields low as the government’s borrowing requirement rises sharply. We thus expect the Riksbank to expand its bond-buying programme by another SEK 300 billion.

Key figures: International & Swedish economy (figures in brackets are from the February 2020 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 March 31, 2020, the Group's total assets amounted to SEK 3,286 billion while its assets under management totalled SEK 1,758 billion. The Group has around 15,000 employees. Read more about SEB at https://www.sebgroup.com