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Nordic Outlook: Tough policy dilemmas due to energy crisis

Because of accelerating inflation and rapid key interest rate hikes, the global economic outlook is deteriorating. We are adjusting our GDP forecasts sharply lower, especially for 2023, and expect GDP growth of only 0.9 per cent in advanced economies (the 38 OECD countries) – down from 2.3 per cent in our May forecast. Swedish GDP growth will be 0.0 per cent next year, yet the Riksbank will speed up its inflation-fighting pace and the repo rate will peak at 2.25 per cent early in 2023. Swedish households are being squeezed by falling real incomes, rising prices and doubled interest expenditures, and home prices will fall by 15-20 per cent.

“In Europe, the energy crisis is assuming more and more dramatic forms, and no end to the Ukraine war is in sight. A consumption-driven downturn is thus inevitable this autumn. In the United States, GDP growth will continue to slow this autumn as Federal Reserve rate hikes increasingly restrain the economy,” says SEB's Chief Economist Jens Magnusson.

Only a mild recession

In a historical comparison the recession is expected to be mild, and in 2024 the OECD economies will grow by more than 2 per cent. Households still have post-pandemic savings buffers. Labour markets have shown great resilience so far, and we expect the upturn in unemployment to be relatively limited. Underlying imbalances are nowhere near as large as during the global financial crisis of 2008-2009. A deep, protracted balance sheet recession with a need for household and corporate deleveraging will thus be avoided. Another positive factor is that we now see an easing of earlier disruptions in global supply chains.

Economic policymakers are encountering major challenges. Central banks are being forced to prioritise inflation-fighting despite the economic slowdown in order to prevent long-term inflation expectations from soaring. In Europe, fiscal policymakers face a dilemma: softening the acute impact of extreme energy prices without unduly hampering central bank inflation-fighting or slowing the green energy transition.

Not a totally new inflation environment

Because central banks have speeded up their rate hikes, the end of the hiking cycle is nevertheless not far away. Our forecast is that the Fed’s key rate will peak at 3.50 per cent by the end of this year and that central banks in Western Europe will end their hiking cycles at around 2-3 per cent in early 2023. Secondary effects from high energy prices and compensatory pay hikes will delay the downturn in inflation. Yet the modest upturn in long-term inflation expectations suggests only limited concerns that we are entering a totally new inflation environment further ahead. This will make room for central bank interest rate cuts late in our forecast period.

“International organisations such as the IMF, OECD and BIS have recently focused on comparisons with the failed inflation-fighting efforts of the 1970s. But fortunately, the differences are greater than the similarities. Back then, weak international competition, frequent labour disputes and indexation of prices and wages contributed to an environment of high, volatile inflation. The contrast with today’s situation is stark,” says Håkan Frisén, SEB’s Head of Economic Forecasting.  

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