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Oct 21, 2008 | 10:58 GMT

6 mins read

Sweden: Safeguards Against Banks' Exposure to the Baltics

OLIVIER MORIN/AFP/Getty Images
Summary
The Swedish government announced Oct. 20 that it plans to guarantee more than 1.5 trillion Swedish crowns (US$205 billion) of borrowing by banks and financial firms until April 2009. The government also intends to set up a stabilization fund for banks to draw from in solvency crises. While Sweden's economy is one of the most competitive in Europe, its banks' exposure to the Baltic states led the Swedish government to set up financial safeguards.
Sweden on Oct. 20 announced a plan to guarantee more than 1.5 trillion Swedish crowns (US$205 billion) of borrowing by financial firms and banks until April 2009. The plan will also include fees the banks will have to pay the government for the guarantees. The government also announced a 15 billion crown (more than $2 billion) stabilization fund that banks will be able to draw from in case of solvency crises. Sweden's fiscal position is quite positive, but Swedish banks' exposure to the Baltic states is problematic. Sweden is one of the most competitive European economies, with a sound manufacturing sector on par (in relative terms) with Germany's. Brands that call Sweden home — IKEA, Volvo, Saab, Electrolux, Scania — read like a who's-who of European industrial power. What was once the most debt-ridden country in the world is now one of the most efficient. Stockholm has slashed spending on social welfare — though it still has one of the world's most generous systems — and has brought its government debt to only 40.7 percent of gross domestic product (GDP), which is one of the lowest figures in Europe. Sweden is also running a budget surplus of 3.5 percent and abides by the rules of the eurozone even though it has not adopted the euro. It has therefore retained control over its own monetary policy, giving it some room to maneuver in the global financial crisis without depending on the European Central Bank (ECB). As such, Sweden is one of the few European countries whose fiscal position is favorable. Regardless of the apparently good fiscal position that Sweden is in, the government still felt it needed to inject banking guarantees worth nearly 50 percent of Swedish GDP into the banking sector — far greater in relative terms than the United States' $700 billion package (worth 5 percent of U.S. GDP). The main reason is the exposure Sweden's banks have to the troubled Baltic economies. Swedbank and Skandinaviska Enskilda Banken (SEB) are particularly exposed; together, they own 56 percent of all bank assets in the Baltic states. Swedbank has 13 percent of all of its assets in the Baltics, and Handelsbanken, Nordea and SEB are not far behind. As the credit crunch sweeps the globe, any exposure to overheated economies — particularly those of Central Europe and the Balkans — is enough to cause a panic. (click image to enlarge) The Baltic economies are tiny compared to that of Sweden; the Baltics' combined GDP is only US$87 billion, compared to Sweden's US$455 billion. This makes Swedish dominance of the Baltic banking sector possible in the first place. After the Cold War, Swedish banks expanded to the Baltic states much as the Italian, Austrian and Greek banks expanded into Central Europe and the Balkans. For those unable to compete with the Swiss, British, German and French banks in Western Europe, the countries to the east were seen as virgin territory where these "mid-major" banking systems would have an advantage due to historical and cultural links to the region. Thus Austria vigorously pursued markets in its former Austro-Hungarian Empire, Italy pushed into the Balkans and Sweden looked to the Baltics. The influx of credit, however, overheated the Baltic economies by causing a credit explosion that even in the best of times would have to come back down to earth. The Baltics were essentially like an inexperienced college student signing up for their first credit card — with Swedish banks providing the free T-shirt. The Baltics' trade deficits ballooned into the 20 percent of GDP range as consumers gorged on foreign imports through free-flowing loans and private sector debt increased astronomically; Latvia and Estonia's private external debt exceeded 100 percent of GDP, while Lithuania — which received somewhat less credit in comparison and has a larger economy — had private external debt of 78 percent of GDP. These are astounding numbers considering that the three Baltic countries — as most of the other post-communist states — had zero debt upon independence. Most of these liabilities were held by Swedish banks. The aggressive move into the Baltics was seen as both a lucrative economic opportunity and a geopolitical strategy by the Swedes. On the business side, Sweden — as well as Finland — feels particular affinity toward the Baltics and believes the region's geographic and historical links to Scandinavia present a business opportunity. Geopolitically, Estonia and Latvia were part of the Swedish Empire for most of the 17th century but were ceded to Russia with the Treaty of Nystad in 1721. The competition over the Baltics between Russia and Sweden is centuries old and primarily stems from access to the Baltic Sea. Sweden therefore sees the Baltic states as a critical buffer with Russia, and any strengthening of Sweden's position in the region — whether political, cultural or economic — is seen as a vital geopolitical goal. The US$205 billion in bank lending guarantees and the stabilization fund are therefore stop-gap measures to make sure that credit tightening in the Baltic states does not completely crash the overheated economies and thus take the overexposed Swedish banks with it. Since Sweden is running a government surplus, the US$2 billion for the stabilization fund is most likely coming from its coffers — essentially real money that will be available in real time. Should a wider crisis develop, the government has announced that it would provide liquidity to banks in return for shares, much as the programs initiated by other European countries. The size of the bank lending guarantee package is large because the Swedish exposure to the Baltics is so extensive, but also because that exposure could lead to the freezing of lending at home in Sweden proper. The package is meant to provide proof of overwhelming government backing for all the commercial activity of Swedish banks. The fear in Stockholm is that with so much of Swedish banks' assets wrapped up in the Baltic states, a collapse there could force Sweden's banks to also stop lending to Swedish industrial manufacturers. Considering that Swedish exports (which amount to 51 percent of the country's GDP) are undoubtedly expecting a slowdown as demand decreases during the global economic crisis, lending may prove to be crucial for Swedish manufacturing to survive the recession. This is also why the lending guarantees extend to all the banks' commercial activities, not just inter-bank lending, as favored by other European governments. Sweden is making sure that its manufacturing core does not suffer a credit crunch caused by its banks' overexposure to the Baltics. The combination of economic, political and geopolitical interests means that Stockholm thinks long-term in the Baltic states. Sweden has no interest in seeing the Baltics fail and is willing to use funds from its strong economy and sound government budgeting to prevent an economic catastrophe.

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