Negative interest rates in Sweden and the lessons learned: It’s useless!

Schweden-Flagge - Negativzinsen brachten nicht den gewünschten Effekt

Sweden was a trendsetter and record holder in negative interest rates. The Scandinavians were the first to introduce penalty interest rates for commercial banks’ account balances at the central bank. Sweden also had the highest penalty interest rate in the world at -1.25%. The Riksbank wanted to encourage commercial banks to lend more. Negative interest rates, which were passed on to end customers, were intended to encourage them to consume more and companies to invest more. But after the end of the Swedish negative interest rate phase, it became apparent that the targets had not been achieved.

The negative interest rate policy adopted by five central banks worldwide to date was abandoned by Sweden on 19th of December 2019. On that date, the Riksbank raised interest rates from -0.25% to 0%. The question is why interest rates are being raised. Normally central banks raise interest rates when inflation rises and the economy is threatened with overheating. Neither is the case in Sweden. The inflation rate is moderate at 1.8%. Since the introduction of negative interest rates in 2009, it has only been slightly above 2% in a few months, otherwise always below.

No indicator shows a sustainable change after the introduction of negative interest rates!

This is not surprising, as the economy in Sweden was not stimulated sustainably by the negative interest rates. No matter what parameters we look at: there has been no significant or even no acceleration since the interest rate fell below the 0% threshold. Consumers neither took out more loans for consumption nor did they save less. Neither did companies invest more, nor did economic growth rise at an abnormal rate.

Only the exchange rate of the Swedish Krona weakened. But even this had no stimulating effect on foreign trade. In fact, the trade surplus has been declining since 2009, even though a weak Krona makes exports cheaper and imports more expensive. Theoretically, this should increase the surplus. In fact, however, the value of imports has risen faster than the value of exports since 2009.

Public pressure caused the Swedish central bank to reconsider

It is interesting to note that as recently as October 2019, the Riksbank saw no reason for interest rate hikes. On the contrary, it advocated a more expansive monetary policy. The rise in interest rates two months later could be due to the fact that the central bank has been exposed to public criticism for the weakness of the Krona for some time. For a long time, the low interest rate policy was defended with the argument that the central bank could not influence inflation and the exchange rate at the same time. If the central bank is aiming for an inflation target of 2% and this has not yet been achieved, there is no reason to raise interest rates. At the end of October, the value of the Krona against the US Dollar finally reached its lowest level ever. This has increased the pressure once again. Just as Donald Trump dealt against the US Fed, the Swedish head of government dealt against the Riksbank. But while Trump is calling for a weak US Dollar and low interest rates, the Swedish criticism was accompanied by a desire for higher interest rates and a strong Krona. This was strange for an exporting nation like Sweden.

Four Central Banks are left

With the abandonment of the negative interest rate policy in Sweden, the number of central banks worldwide operating with such interest rates will be reduced to four: the Eurozone, Japan, Switzerland and Denmark, which together generate no less than 25% of global GDP. By raising interest rates in good times, the Swedish central bank is also creating room for manoeuvre in the event of an economic slowdown. In order to be able to intervene in the event of a recession, interest rates should not already be below 0% at the beginning of the recession. The ECB, which raised negative interest rates from -0.4% to -0.5% as recently as September, is steering in exactly the opposite direction.

Rising interest rates can be the preparation for a recession

Given the lack of success of the negative interest rates, the four remaining central banks should also ask themselves. Is it not appropriate to prepare for a possible recession? Negative interest rates stimulate neither inflation, nor economic growth, investments, savings rates, consumption and lending. If moderately rising interest rates do not have the feared negative effect on the economy at all, then it could at least be tested.

One thing is clear to us: once a recession has started, a cut in interest rates from -0.5% to perhaps -1% will have little effect. On the other hand, a cut from a conceivable 2% to -1% would most likely have a relieving effect. Not least because of this, the Fed started its cycle of interest rate hikes some time ago. Perhaps it is time for Eurozone residents to put as much pressure on their central bank as Sweden put on its Riksbank?

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