Low interest rates ‘threaten financial stability’ – Riksbank

Posted on November 23, 2016

Sweden’s central bank is showing no intention of ending its policy of record low interest rates (far from it), but it has once again warned that the government needs to take action to offset the risks its monetary policy is creating.

The Riksbank is worried about rising public debt levels and vulnerabilities in the banking sector that are being exacerbated by its repo rate of -0.5 per cent, which it has maintained in an attempt to boost inflation.

In its semi-annual financial stability report released today, the Riksbank said rates are “expected to continue to be low in the years ahead”, despite the chance they can encourage “excessive risks” among investors.

Even if an increased risk-taking is partly an intended effect of the monetary policy being conducted, it may increase the vulnerability of the financial system, which may ultimately threaten financial stability. This would particularly be the case if risk-taking were to become excessive without being counteracted by measures within other policy areas. For example, excessive risk-taking may lead to assets becoming overvalued and risks incorrectly priced.

The low cost of borrowing has seen Sweden’s household debt to income ratio rise to almost 180 per cent, with 30 per cent of households with mortgages now having a debt to income ratio of over 400 per cent, according to the Riksbank and Statistics Sweden.

The banking sector, meanwhile, is considered to be particularly “sensitive” to economic shocks, despite Swedish banks performing relatively well compared to their international peers. Although they currently enjoy a relatively low proportion of non-performing loans, a mismatch between maturities on their funding and assets puts them at risk of a liquidity crisis in the event of an economic shock.

The banking system is large, interconnected and has a high proportion of wholesale funding combined with a low proportion of capital in relation to its assets. There is a strong link between the banking system and the Swedish housing market, as the major banks have a large and rising proportion of mortgages on their balance sheets. These structural vulnerabilities make the banking system sensitive to shocks linked to e.g. household indebtedness.

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