Sweden’s Central Bank is Still Ahead of the Curve

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In the early 1990?s Sweden had a financial crisis not unlike the U.S. financial crisis of 2008/2009. With its banking system effectively insolvent Swedish officials pursued a different strategy than the U.S. bailout model. The equity holders in Swedish banks were for the most part wiped out and troubled assets were written down to current value.

Only then did the government step in. Essentially the Swedish plan called for banks to take their lumps all at once and set the stage for future growth. Contrast this to the way Japan and the U.S. have handled their respective asset price inflation induced financial crises. Under these plans the government does assume some of the troubled assets but full writedowns were not taken in the hope that the banks earn their way out of danger over time. As can be seen from Japan’s experience this does not set the table for a robust recovery.

Now, according to Bloomberg, Sweden’s central bank is thinking about how to prevent the next asset price bubble. Instead of setting policy strictly based on traditional inflation measures they are beginning to incorporate asset prices and lending growth into the decisions.

(Emphasis mine) 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 U.S., 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.”

Bernanke has paid lip service to this idea when he said:

in a Nov. 16 speech that policy makers “have to keep an open mind” on the possibility of using interest rates to pop asset bubbles. He added that the “best approach here, if at all possible, is to use supervisory and regulatory methods.”

To me this appears to be more of the same and not a serious consideration of an approach similar to Sweden’s central bank.

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