IMF Finalizes 2024 Article IV Review of Sweden

Washington, DC: On March 7, 2024, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV Consultation[1] with Sweden, and endorsed the staff appraisal without a meeting on a lapse-of-time basis.

After a strong post-pandemic rebound, the Swedish economy has slowed appreciably. GDP is estimated to have declined by 0.3 percent in 2023, driven by declining private consumption and residential investment, amid a significant tightening of financial conditions and eroding real incomes. Activity is expected to remain subdued during 2024 and pick up gradually thereafter.

Inflation has been declining at a faster clip in recent months, with the lion's share of the disinflation driven by energy prices. In turn, core inflation is also receding, though it still remains high at 5 percent y/y in December 2023. Inflation is expected to return to the target by mid-2025.

The labor market is showing signs of cooling, and employment growth has moderated. Wage growth has been modest. Private credit is declining, and real estate and equity prices have fallen from their 2022 peaks. Corporate bankruptcies have picked up sharply. In particular, the commercial real estate sector is severely hit, with highly leveraged and lowered-rated firms seeing their debt-carrying capacity indicators deteriorate significantly. The banking system remains resilient with strong profitability and sizeable capital and liquidity buffers. The current account surplus is projected to have widened in 2023, on the back of higher net exports of goods and services. Based on preliminary data, the external position is assessed to be substantially stronger than the level implied by medium-term fundamentals and desirable policies.

Executive Board Assessment[2]

In concluding the 2024 Article IV Consultation with Sweden, Executive Directors endorsed staff's appraisal, as follows:

The near-term economic outlook is subdued. Growth is projected to average 0.2 percent in 2024, and gradually recover thereafter to average 2.3 percent in 2025. The balance of risks to growth is tilted to the downside, with the main risk arising from larger-than-projected effects from the tight financial conditions. Inflation is expected to average

2.6 percent in 2024 and reach target by mid-2025. Inflation risks are balanced, with upside risks from still elevated core inflation and a slower adjustment in inflation expectations or global supply-side disruptions offset by faster disinflation from weaker growth. The uncertainty around the outlook remains high.

The monetary policy stance is appropriately restrictive and would have to remain in place during the first half of 2024 to ensure that inflation returns to target. The Riksbank should remain ready to adjust monetary policy settings in case risks to the inflation outlook materialize on either side, while continuing to maintain a clear, forward-looking communication strategy to ensure that inflation expectations remain anchored.

Macroprudential policy settings should remain tight amid elevated systemic risks. Elevated levels of debt and high financial sector exposure to both RRE and CRE risks stand as the main sources of systemic risk. While the banking system is strong and should be able to weather severe shocks, close monitoring of systemic risks by banks and their supervisors is crucial given the heightened uncertainty. The increase in the CCyB and the extension of risk weight floors for banks' RE and CRE loan exposures were timely to further enhance bank resilience.

Progress in the adoption of key FSAP recommendations is commendable, and momentum should continue. This would require improving the collection of granular household balance sheet data and standardized disclosures for the CRE sector, continuing to improve risk analyses, increasing onsite and intrusive supervision, and continuing to strengthen crisis management strategies. Over the medium-term higher capital requirements on banks' CRE exposures should be introduced to contain systemic risks. BBMs could also be tightened contain risks related to high household debt. Ongoing improvements to the AML/CFT framework are timely and will continue to support financial stability.

The planned broadly neutral fiscal policy stance in 2024 is appropriate. The 2024 budget includes well-targeted measures to support vulnerable populations. If the recession deepens, available substantial fiscal space provides the room for further fiscal support, though measures should be well designed to avoid inflationary pressures and targeted towards the vulnerable.

Sweden's strong fiscal framework has underpinned sustainable public finances and has served the economy well. In the medium term, fiscal policy needs to address structural and demographic-related spending pressures and new investment needs to support the green transition. Other fiscal priorities include tax reforms to rationalize dividend taxation, lower labor income taxes, reduce interest tax deductibility and improve property taxation. In this context, a small deviation from the surplus target, while preserving the key elements of the framework, would allow to pay for strong growth-enhancing public investment and social spending needs over the medium term.

Structural reforms will be instrumental to strengthen medium-term growth and support social inclusion and the green transition. Efforts focused on upskilling and education opportunities and strengthening working incentives are welcome. Bolstering active labor market policies, tailored training and reskilling programs would address skill gaps and mismatches. Addressing housing market challenges, easing restrictions on new construction, including building and permit regulations, and easing rent control, are not only important for raising the supply of housing but also encouraging labor mobility. Continued efforts to increase the supply of renewable energy and green infrastructure are welcome, although more measures would be needed to meet Sweden's ambitious climate goal targets.

[1] Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.

[2] At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country's authorities. An explanation of any qualifiers used in summings up can be found here: http://www.IMF.org/external/np/sec/misc/qualifiers.htm.