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Tuesday, 17 October 2017

Welcome Riksbank to NIRP, QE and forward guidance

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The Riksbank has managed to surprise by embracing a raft of unconventional easing measures that have not been adopted by other central banks during the financial crisis.

No other central bank has taken the steps of adopting negative interest rates, QE and inflation based forward guidance and to do so in a single meeting, which  makes this easing that much more spectacular.

The Riksbank also does not end there and leaves the door open to do more by suggesting it is willing to buy loans to companies via banks and indicate a “readiness to do more at short notice”.

On NIRP:

The Riksbank cut the repo rate to -0.10% from zero. They have also announced that they will restore the interest rate on fine-tuning transactions on their operations to +/- 0.10%. The fact that the Riksbank has chosen not to be as aggressive as the SNB or DNB on negative rates is related to the SEK not being a source of unwarranted demand from foreign investors. Unlike the more active SNB and DNB, the Riksbank is not in a battle to make its domestic currency less attractive so do not require an aggressively negative repo rate.

On QE:

The amount of buying at SEK10bn is small but it is the announcement effect of this move that is more significant. The fact that the Riksbank has indicated a willingness to do more suggests that they are dangling the carrot of an increase in QE. This will help to amplify the impact of QE as expectations of policy moves have tended to have more of an impact.

On forward guidance:

Unlike the forward guidance of the Fed, BoE or ECB the Riksbank has adopted a stronger commitment to maintaining negative interest rates. They have indicated that NIRP will remain in place until the CPIF measure of inflation which is core inflation is close to 2%. The Riksbank’s forecast of inflation show that core inflation of 2% in 2016 and a reason why the Riksbank persists with looking for a rate hike in the H2 2016.

Why such an aggressive response from the Riksbank? The updated forecast for inflation are largely unchanged from its December assessment suggesting that we would have had sharper downward adjustments had the easing not been announced.

The Riksbank feels that underlying inflation has bottomed but cites “the situation abroad” as increasing the risk that inflation will not rise “sufficiently fast”. Weak growth abroad (eurozone) and lower oil prices will lead to low inflation to persist and dampen further on inflation expectations that have fallen below the 2% inflation target.

The Riksbank has fired its big bazooka but it is not out of further ammunition having the ability to:

1) expand QE further

2) buy private sector assets

3) lower its rate profile and extend the period over which it expects NIRP to apply.

We have been in favour of receiving 1y2y SEK from 0.93% and continue to see the money market curve flattening especially as the Riksbank remains asymmetrically biased toward further easing.

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