Economy in Brief

Sweden ended its rate cutting back in the third quarter of 2025. Since then, housing prices have drifted higher. However, housing activity, starts, have had a minor bounce from their lows but no real recovery. Starts are still well below their 2015-2022 levels. But the pace of decline has slowed and given way to oscillation and stability.

Sweden’s inflation rate has fallen back down to its pre-Covid pace. Inflation is no longer a problem there as the headline and core rates for two consecutive quarters are below the 2% mark and look comfortable there. House prices have stabilized. There has not been a year-on-year drop in house prices since 2024-Q1.

Housing completions in this environment have a one-quarter bounce. It’s too early to call this a bottom in completions, but we do have what looks like a spike low in completions. With housing prices creeping back up, having risen for three quarters in a row, the market is beginning to look firmer.

The economy is back in gear, with industrial production rising as of the end of 2024 and logging growth rates of over 4% year-over-year, even after slowing from its rapid recovery from mid-2024 to 2025-Q3.

Sweden shows the signs of having a soft landing in the wake of all the Covid excesses, even with the post-Covid War in Ukraine and the more recent bottlenecks for energy and other supplies in the Strait of Hormuz. Only time will tell if the authorities can continue this run of good policy results.

Monetary policy seems well positioned, with the policy interest rate less than a percentage point above the inflation rate but more than one and one-half percentage points above the core rate of inflation. Interest rates in Sweden were last dropped in late 2025.

Sweden is less affected by the complications in the Middle East and principally uses fossil fuels in its economy to fuel transportation. Apart from that, it has a rich resource of hydro, nuclear, and green energy. This helps give it a buffer against the rollicking prices in the global energy sector and to buffer it from some of that uncertainty.

In this week's Letter, we examine how Japan's hard-won reflation is being tested by an energy shock and a fiscal turn. Japan has come a long way in achieving substantive inflation and, more recently, real wage growth, substantiating its tightening cycle (chart 1). Q2 real GDP growth nonetheless underwhelmed, dragged partly by a slump in public inventories that may prove one-off (chart 2). More discouraging was private consumption, whose contribution to growth was flat over the quarter. Delving into the household picture, real spending has continued to shrink despite real wage gains in recent months (chart 3). Elevated energy prices appear to be affecting household behaviour, stalling the translation of higher wages into domestic demand-led growth.

Recent market moves have reflected other drivers, including renewed yen weakness after a short-lived appreciation prompted by intervention. Government bond yields have surged, reflecting both tightening expectations and concerns over Japan's fiscal health, in a climb extending well beyond Japan (chart 4). One potential offset to elevated global oil prices is domestic, and it lies in rice. Last year's constrained supply has evolved into a glut this year, with prices diving (chart 5). Given rice's weight in the consumption basket, the deflationary effects may be significant. Lastly, we turn to fiscal prospects, with talk of the 2027 budget already underway. Investors are watchful of the cabinet's expansionary bias, and how increased spending and food tax cuts may lift bond issuance, with details still scant at this juncture (chart 6).

Japan’s state of play Japan has already managed to get many things going in its favour. After decades of low to negative inflation, consumer inflation rose above 2%, though it has since eased to just above 1% (chart 1). Accompanying the pickup in price pressures is wage growth, which has risen in nominal terms over recent years. Only more recently has it grown in excess of consumer inflation, indicating an interim period of real wage growth that generally benefits households. Sustained inflation alongside wage growth is what the Bank of Japan has long sought. With such conditions among others fulfilled, the central bank had some justification to begin normalising monetary policy, with its latest rate hike in June this year. Complications nonetheless remain. Persisting tensions between the US and Iran are keeping oil prices elevated, threatening to upend Japan's recovery in its domestic sector. They have also prompted government measures to support growth and help households tide through price increases. Those measures have drawn their own concerns, especially over Japan's fiscal health, which we discuss in more detail later.

The S&P PMIs show a mixture of strength and weakness in August. However, the readings on average show the composite stronger in August than in July, the manufacturing readings stronger in August than in July, and the services readings slightly stronger in August than in July. That suggests there's broad sectoral improvement underway. However, there's still a great deal of irregularity. The composite indexes rose in five of the eight early reporting countries, with Australia, France, and Germany showing monthly weakening. Despite the weakening in France and Germany, the European Monetary Union showed better conditions on balance. Manufacturing sectors improved in August except for the United States, India, and the United Kingdom. France and Germany also had the only weakening service sectors in August.

Apart from August, the three-month, six-month, and 12-month averages, compiled only on completed data through July, show a bit more weakening. Five countries show composite readings weakening over three months compared to six months, with only the U.S., India, and Australia getting stronger. Over six months, all of the reporters’ composite values are weaker compared with their 12-month values on average, with only Japan getting stronger. For 12 months compared to 12 months ago, all the reporters are stronger and they're stronger on almost all of their readings except for the U.S. The U.S. composite is weaker over 12 months on average, compared to 12 months ago, and its service sector is weaker. The EMU composite is stronger, but the service sector is weaker compared to 12 months ago.

However, in terms of standings, the queue percentile standings for the group are quite good and have been clearly progressing over recent months. The average composite queue standing is in its 60th percentile. For manufacturing, it's in its 63rd percentile, while for services, the average is only in its nearly 49th percentile, just barely below its historic median. Manufacturing PMIs are on a long climb higher. The composite queue readings are dragged down by services, particularly in India but also in Germany and France. The U.K. and Japan have readings above 50 but by the thinnest of margins. The U.S. has a strong service sector by ranking, in its 80th percentile compared to where it's been since 2021. The next strongest ranking is a 69th percentile standing in Australia, and after that, it's a 57th percentile standing in the EMU. The services reading has been in a trendless oscillation since at least mid-2022.