Norway and Sweden: Currency outlooks are gradually improving

We think that the Norwegian krone and the Swedish krona will hold on to their recent gains and appreciate further next year. Following significant volatility recently, a combination of fading domestic risks and favourable external developments will provide support for both currencies. Data surprises present the key risk.

What you will learn:

• The depreciations earlier this year reflected upside surprises to US activity and inflation, leading to repricing in rates markets which negatively affected the Nordic currencies. More recently, US data has come in softer, while the Nordic central banks struck a hawkish tone due to concerns about the impact on exchange rates. Synchronised policy easing should ease external pressures.
• Sources of instability for the Norwegian krone are fading. A more stable European energy market is helping Norges Bank effectively sterilise krone-denominated petroleum revenues. A prolonged pause by Norges Bank that widens interest rate differentials will support the krone, but its high illiquidity and close ties to global energy prices means its recovery won’t be smooth.
• Although the Riksbank cut rates in early May before the European Central Bank or the Federal Reserve, the Swedish krona has rallied since. Domestically, headline inflation is close to the Riksbank’s target and the economy is weak, meaning high real rates now weigh on activity. But the Riksbank will proceed with policy easing at a cautious pace, as the policy rate remains its main tool to steer the exchange rate. We think an appreciating krona will bring the currency closer to its fair value over the medium term.