Sweden's next govt faces a raft of economic challenges

(From left) Central bank governor Stefan Ingves, finance minister Mikael Damberg, PM Magdalena Andersson and financial supervisory authority director Erik Thedéen at a press conference on Sept 3, 2022. PHOTO: AFP

STOCKHOLM - Sweden is on the cusp of a power shift, casting aside the ruling Social Democrats in favour of a centre-right opposition bloc as vote counting nears the finish line. A conclusive result is expected on Wednesday.

The biggest Nordic country is changing tack just as the impact of Russia's war in Ukraine reverberates across Europe, pushing up the cost of energy, which fuels inflation and eats into living standards, portending a recession and sending home values sliding.

The central bank has started raising borrowing costs, with more hikes forecast.

Like most global peers, Sweden and its neighbours risk a "toxic cocktail" of the rapidly rising cost of living and sharply higher interest rates upending their housing markets, Mr Helge Pedersen, Nordea's group chief economist, has said.

Here are some of the main challenges the new government will face when taking power.

Energy crisis

In Sweden, the energy shock that is hitting homes and businesses across Europe is felt particularly in the south. Households there are reeling under record-high costs, even as power flows to neighbouring countries from northern Sweden made it the region's largest electricity exporter in the first half.

The sense of impending crisis is profound after decades of stable and low electricity prices and in response, both coalitions have promised to protect consumers from the worst effects.

Longer term, Sweden will have huge energy needs as it transitions to a fossil-free economy, with large-scale plans underway to make electric-vehicle batteries as well as steel produced without burning coal.

Nuclear power became a flash point in the election campaign as the right-wing opposition pledged to support new plants, accusing the policies of the government of Prime Minister Magdalena Andersson for the shutdown of old reactors.

Labour market

Despite the resilience of Sweden's overall economy, unemployment among young people and those with immigrant background grew during the pandemic.

The resulting two-tiered labour market has remained one of the key challenges that authorities such as the International Monetary Fund have urged the country to focus on.

While Sweden has slashed immigration by half from its peak in 2016, the Sweden Democrats have signaled they would go much further to stem the flow, and aim to repatriate refugees to war-torn countries such as Syria.

Bloomberg Economics says that rising nationalist sentiment across Europe "has gained some traction in Swedish politics, and in the case of a potential right-wing coalition government could spell significant changes in immigration policy".

That, in turn, would drag on the expanding pool of available workers in Sweden and dampen the impact on the labour component of potential growth going forward.

Real-estate slump

While the clouds gathering over Sweden's property market were largely overlooked in the election, the next government will have to tackle increasing voter angst over a projected slump in home valuations.

Economists are expecting housing prices to tumble as much as 20 per cent from a peak earlier in the spring, and this year has already seen declines of about 8 per cent on national level.

At the same time, loan costs for mortgage borrowers could soon double as the Riksbank, the central bank, continues with its aggressive round of interest-rate hikes in the face of surging inflation rates.

As for now, the main concern is the effect on consumption rather than a crash which would reverberate through the banking sector.

As households are seeing real wages drop along with home values, they are expected to tighten purse strings to an extent that could lead to the biggest Nordic economy contracting next year.

A further area of concern for the incoming financial markets minister and finance minister is the raft of highly leveraged property companies, which now face substantially higher refinancing costs.

The Riksbank and the financial watchdog have already warned that the commercial real estate sector poses a threat to Sweden's financial stability and may impact banks' loan portfolios.

Investors are spooked and the government will have to keep close tabs on those landlords that provide critical social infrastructure, such as schools and hospitals.

Fiscal prudence

Like its Nordic peers, Sweden's economy has fared better than many during the pandemic, due to its relatively large dependence on exports, robust public finances backing a strong social safety net and digital progress.

Still, with the cost-of-living squeeze, and a recession looming next year, any incoming government will need to manoeuvre skillfully to strike a balance between easing households' pain, and avoiding fanning the flames of inflation that's already accelerating.

At the same time, investments are needed to prop up the country's welfare sector and law enforcement, expand its military defence and finance a push to move to a net zero-emission economy by 2045.

While Sweden's public debt of less than 35 per cent of gross domestic product means it has room to boost spending, current rules stipulate it must generate a surplus over a business cycle.

The Social Democrats have argued for replacing that guideline with a balanced-budget target, but there is no consensus across the political spectrum. BLOOMBERG

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