The Krona (EUR/SEK) Conundrum: Inside the Riksbank’s Dilemma Amidst Inflationary Pressure
As the EUR/SEK inches towards its April pinnacle, it’s becoming clear that the situation transcends mere risk sentiment. A brewing discord within the Riksbank, compounded by lower-than-forecast inflation figures, has left the krona on shaky ground. Immediate risks remain heightened, and the optimistic outlook for a rebound during the latter half of this year is increasingly uncertain.
The softer data has been instrumental in bolstering the Riksbank doves’ stance. Despite the krona’s continued frailty, the assumption heading into the April Riksbank meeting was that the bank would execute a 50bp rate hike coupled with a decidedly hawkish stance to fortify the currency.
Though the bank did follow through with the hike, the messaging that ensued was more subtly nuanced. The Riksbank’s highly scrutinized interest rate projection indicated that we have either reached or are nearing the zenith for rates. An unexpected dissent from two board members—Deputy Governors Anna Breman and Martin Floden—advocating for a lesser hike, lent a dovish flavour to what was otherwise a substantial interest rate increase.
An examination of the subsequent meeting minutes revealed the dissent was not extremely dovish. Both Breman and Floden have not ruled out future hikes, but have observed signs of subsiding inflationary pressure and declining inflation expectations. The data post the April meeting largely supports this perspective.
Last month saw both core and headline inflation fall below expectations, with the core measure, excluding energy, dropping from 8.9% to 8.4%. The esteemed Prospera survey of inflation expectations continues to ebb, with CPIF projected at 2.3% in two years and at 2.1% in five years. This represents a 0.1pp decrease compared to the previous month in both metrics. Floden, however, noted that there’s “still some distance to cover before we reach the inflation target.”
Regarding housing—a sector where Sweden’s vulnerability is notably high—there have been preliminary signs of price stabilization. However, the expectation of continued decline is predominant, and the recent junk status downgrade for SBB’s debt—one of Sweden’s largest landlords—along with a consequent dividend pause, serves as a stark reminder of the persistent risks facing the Swedish property sector amidst rising interest rates.
Despite the situation, our stance on the Riksbank’s strategy remains largely unchanged. The April meeting minutes didn’t reflect significant differences in views on addressing inflation, which suggests another 25bp rate hike—likely to be delivered in June—followed by more, subject to data indications.
However, the repercussions for the krona are decidedly negative. The new Governor, Eric Thedeen, has steadfastly maintained a hawkish stance, emphasizing the need to bolster SEK. This stance has yielded some positive results compared to other pro-cyclical counterparts.
Yet, the April meeting represented a turning point for the krona. The signals in the interest rate projection, the unexpected split within the board, and subsequent dovish data have collectively made SEK more susceptible in the short-term.
Support for SEK has largely hinged on the Riksbank’s hawkish messaging, but it’s difficult to envision this narrative regaining momentum in June, especially if inflation continues on its downward trend. As Floden conceded recently, the Riksbank may desire a stronger currency, but its influence is limited.
Prolonged SEK weakness might coerce the Riksbank to contemplate foreign exchange intervention, but we’ve emphasized repeatedly that the threat of intervention seems more probable than actual implementation, given the relatively low reserves.
Ultimately, despite the Riksbank’s efforts to stay ahead of the European Central Bank on rate hikes, the absolute level of interest rates continue to creep higher, resulting in mounting trade-offs for the housing market and broader economy.
Policymakers are optimistic that potential Federal Reserve rate cuts and the conclusion of the ECB’s hiking cycle in the upcoming months can alleviate some of the current pressure.
The krona is anticipated to remain particularly susceptible to external challenges, and despite an upturn in risk sentiment, it may lag behind other pro-cyclical currencies.
As we approach the 29 June meeting, there’s a tangible possibility that the Riksbank might hit pause and postpone the promised 25bp hike until September. Much will hinge on May’s CPI figures, due to be released on 14 June. However, our primary assumption is that they will go ahead with the last hike in June and then hold off.
With these considerable near-term risks, it’s likely that EUR/SEK could breach the 11.43 April highs, potentially testing the 11.50/11.60 range, unless the FX market decisively favours high-beta currencies. Even in such a scenario, we expect EUR/SEK to find support around 11.20/11.25 due to the Riksbank’s less-than-favourable narrative for SEK.
Looking ahead, we anticipate a stabilization in risk appetite and a shift from the dollar towards European currencies in the second half of the year to support a gradual decline to the 11.00 area in EUR/SEK. However, the Riksbank’s actions have likely made the road to SEK recovery more precarious.
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