Despite the projected slowdown in growth, the Organization for Economic Cooperation and Development also warns that the Riksbank should be prepared to raise interest rates if inflation fears remain high.
The weaker growth which started in 2007 will continue through 2008 and 2009, with the OECD projecting Sweden’s economy will grow at 2.1 percent over the next two years.
At the same time, unemployment is expected to rise slightly to just over 6 percent.
According to the OECD, much of the cool down in Sweden is attributable to weaker conditions globally, which will take a toll on Swedish exports.
But domestic conditions are also part of the problem.
“The global economy is weakening but the most important reason is that we also see signs that Swedish demand is weakening,” said David Turvey, who analyzes Sweden for the OECD.
The lower growth projections ought to reduce Swedish inflation fears, but the OECD believes that the Riksbank should nevertheless be ready to raise interest rates further in 2008.
Inflation fears among Swedish households are currently approaching record high levels not seen since the 1990s. And the OECD issued a strong warning that continued high inflation expectations represent a threat to Sweden’s economic stability.
“The Riksbank must be ready to raise rates if there are not clear signs of lower inflation expectations,” said Turvey.
In its analysis, the OECD projects prices will increase 3.2 percent this year and 2.8 percent in 2009, figures which are much higher than the Riksbank’s own inflation target of 2.0 percent.
It also means that the government must be careful not to over-stimulate demand through unfinanced tax reductions, which can heat up the economy and increase the risk of further interest rate hikes.
While the OECD’s projections for the global economy are far from rosy due to continued uncertainty in financial markets, there remains some room for optimism.
According to the OECD, odds are that the worst of the financial uncertainty has passed. The US economy may experience slight negative growth during the current quarter, but will likely avoid a recession. Overall, the US economy is expected to grow by 1 percent this year and next.
The European economy looks slightly better, with growth expected to reach 1.7 percent in 2008 and 1.4 percent in 2009, with Japan’s economy expected to expand at similar rates.