Riksbank should reduce balance sheet to avoid risks – Flodén

The Sveriges Riksbank should start reducing its balance sheet to avoid risks derived from eventual higher rates on its bond holdings, deputy governor Martin Flodén said in a speech to the Swedish House of Finance today (April 13).

Before the financial crisis of 2007–09, the Swedish central bank had a balance sheet of Sfr200 billion, or approximately $23.7 billion. The bond-buying programme the Riksbank implemented to provide liquidity and foster growth has increased its balance sheet to Sfr870 billion.

“Monetary policy arguments for a large balance sheet are, in my opinion, not particularly strong in the Swedish context. Indeed, there are also risks associated with maintaining a large balance sheet,” Flodén said.

He pointed out that stronger growth and gradually rising rates could expose the central bank to defaults on the bonds it holds. “My assessment is that the best way of winding down the bond holdings with as little market influence as possible is to hold the bonds in the portfolio until they mature,” Flodén said.

Nonetheless, the deputy governor considers bond-buying programmes will remain a useful tool in the future. As the natural rate of interest appears lower than in the past, central banks will hit the lower bound earlier in a new crisis, Flodén argued. “We may then again need to use bond purchases as a complement in monetary policy,” he said.