Sweden shows central bankers how to fight next asset bubble

Sweden’s central bank may set the direction for other policy makers as it looks beyond conventional inflation targets to asset-price growth in an effort to prevent the next bubble.

“Not countering asset-price increases has been the conventional wisdom among central banks, but what has it actually resulted in?” said Tina Mortensen, an economist at Citigroup Inc. in London. “Surely the current crisis has made central bankers rethink policy; Sweden is actually facing this problem” because “asset prices and monetary policy are a hot topic,” she said.

Riksbank Governor Stefan Ingves has raised the repo rate four times since July even as inflation remains below the bank’s 2 percent target. The increases occurred as house prices move above pre-crisis levels and credit growth hovers near 9 percent. While Sweden raises rates, the US, the euro region, Japan and the U.K. are keeping borrowing costs at record lows.

 

The financial crisis that started more than two years ago was exacerbated by central banks holding rates too low as inflation gauges failed to capture asset-price growth, according to Johnny Akerholm, president of the Helsinki-based Nordic Investment Bank. He says most policy makers are repeating the mistake.

“We are practically re-running the same situation these days,” he said in his bank’s Dec. 17 newsletter. “Rates are low and the central banks are ‘printing money’ while virtually all prices, except the consumer prices in industrial countries, are increasing rapidly.”

Rates ‘normalized’
Policy makers in Europe and the U.S. have started to warn of the risks associated with low rates. Bank of England Monetary Policy Committee member Andrew Sentance voted for a seventh month to raise the benchmark from a record-low 0.5 percent at the bank’s Dec. 9 meeting. Paul Fisher, the bank’s markets director, told the Daily Telegraph last week that rates should be “normalized” to about 5 percent.

European Central Bank Executive Board member Juergen Stark says monetary policy should address the threat of financial imbalances and wants forecasting models to provide broader gauges of the economy. He’s spent the past year warning that an extension of the ECB’s liquidity program risks sowing “the seeds for new imbalances.”

Still, ECB President Jean-Claude Trichet said as recently as Dec. 2 the bank will keep providing emergency funds to banks through the first quarter. The ECB’s benchmark rate has remained at a record low 1 percent since May 2009.