In Sweden, demand growth has remained on a solid footing. In the first three quarters of 2016, GDP growth was 3.5% y/y on average. Despite this, due to a very strong comparative Q4 15, we expect the full-year average to be closer to 3% y/y.
In 2017 and 2018, we expect GDP to grow around 2% y/y, which is a tad above our estimate of potential GDP growth post crisis (1.5% y/y). Given apparent domestic and international perils, this reflects our view of an economy in a state of Riksbank-induced real interest rate unconsciousness.
Swedish labour markets continue to show steady improvement, despite some deceleration in employment growth being visible throughout 2016. Concurrently, the improvement in the unemployment rate seems to have ground to a halt. Our forecasts indicate the unemployment rate will continue to hover just above 7% over the forecast years.
At face value, there is an apparent inconsistency between strong demand and employment growth but a rather high and stable unemployment rate. Looking into details, we can nevertheless explain most of these differences with a very strong inflow of immigrants over the past few years. These flows are expected to build over the coming two years as newcomers exit basic language and vocational training programmes and enter the labour force.
Despite the 'core labour market' (domestically-born persons between 25 and 54 years of age) demonstrating among the lowest unemployment rates since the early 1990s, wage inflation is still very weak. Even accounting for historical upward revisions to data and wage drift, we estimate that wage inflation is currently below 2.5% y/y.
Looking ahead, we do not forecast a material change to the wage outlook. First, the profit share is rather subdued from a historical perspective, second, companies refer to stark competition and troublesome developments in demand, third, real wage growth has been very strong in Sweden, finally, employers and employees are posting subdued expectations on future wage growth. In our view, this implies only a gradual ascent from the current 2.5% y/y hourly wage growth towards 3% y/y in 2018.
Historically, CPI inflation has been half of wage inflation. Hence, our forecast of peak 3% wage inflation is not sufficient to push inflation sustainably much closer to the inflation target than its current point.
That said, the renewed push in oil and other commodity prices seen recently as well as a weak SEK can, at least temporarily, cause higher inflation. In our forecast, we expect commodity prices to rise slightly from here and a modest strengthening of the SEK. This last one is, however, not enough to balance fully the inflationary impulse, implying a small rise in inflation from summer 2017 onwards.
Thus, we expect the Riksbank to increase stimuli with another prolongationof at least SEK30bn over the next six months, to lower rates by 0.1pp and then to hold still.
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