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SNB’s monetary policy – No change despite positive outlook

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The Swiss National Bank left the interest rates on sight deposits and the 3-month LIBOR rates unchanged last Thursday. The central bank renewed its commitment to intervene in the forex markets if needed, noting that the Swiss franc was “significantly overvalued.

“In periods of uncertainty, [the franc] is still subject to increased upward pressure,” the SNB chairman, Thomas Jordan said at the news conference after the central bank made public its decision on monetary policy.

The central bank’s comments come amid the Swiss economy witnessing modest economic growth along with high trade surplus and falling unemployment levels.

The SNB prefers a weaker Swiss franc

The Swiss National Bank has been cautioning the market participants that it would prefer to see a weaker Swiss franc, noting that it was still too strong for the economy.

The key deposit rates were left unchanged at -0.75%. This has been untouched since early 2015 when the Swiss National Bank decided to remove the peg against the euro and instead started to actively defend the currency in the foreign exchange markets.

The currency, however, continues to remain a favorite.

This comes largely because of a stable economy and its low levels of debt, compared to other countries. Despite the SNB’s warning about intervening in the markets to weaken the Swiss franc, the currency continues to enjoy its status as a safe-haven, in times of turmoil.

Foreign investors often pile into the Swiss assets, despite them being less than attractive in terms of yield.

The SNB’s policy statement

The SNB’s policy statement said that “The negative interest rate and the SNB’s willingness to intervene in the foreign exchange market are intended to make Swiss franc investments less attractive, thereby easing pressure on the currency.”

Following the SNB’s announcement, which showed no major changes to monetary policy, the Swiss franc fell modestly. The Swiss franc is also taking a breather as the political uncertainty in Europe along with renewed optimism on the economy. Investors now flock to European assets which are more attractive than the Swiss.

The Swiss franc has remained largely stable this year. There are however questions being asked whether there is any difference between a currency that is overvalued and one that reflects a valuation from the investors.

Some analysts note that while in the long term, the Swiss franc is indeed overvalued; it should be structurally stronger in terms of the exchange rates.

In its effort to defend the Swiss franc’s exchange rate, the central bank’s balance sheet has been growing as it creates fresh money to buy foreign assets. This amount (forex reserves) stands at 694 billion francs, which is almost equal to the country’s gross domestic product (GDP).

Switzerland Forex Reserves (Source: Tradingeconomics.com)
Switzerland Forex Reserves (Source: Tradingeconomics.com)

The rising balance sheet shows that the SNB has been aggressively weakening the currency, especially in the early parts of the year. This was the time when political uncertainty in Europe was the strongest on account of the Dutch and the French elections. The threat of Eurosceptic parties pushed investors to the safe haven of the Swiss franc.

Swiss GDP growth

Despite the efforts and the longer-term strength of the Swiss franc, the Swiss economy has managed to remain resilient. A major part of the Swiss economy is through exports mostly to the eurozone. The country recorded a trade surplus of 37.5 billion francs just a year ago. Most of this surplus came from exports, which was approximately 6% of the nation’s GDP.

Therefore, a weaker currency is more beneficial to the Swiss economy. Switzerland’s current account is also larger as a share of the GDP when accounting for trade and investment flows. However the SNB Chairman, Thomas Jordan said that the current account was not a reliable indicator of the strength of the Swiss franc.

“We have to continue with our expansionary monetary policy” and absorb some of the effects of the franc’s strength,” he said.

While the euro has been surging stronger, the ECB’s monetary policies are currently keeping the common currency in check. Many major economies in the Eurozone are already voicing their opinions about having a stronger exchange rate.

Policymakers are, however, not convinced yet and prefer to wait for stronger evidence that inflationary pressures were here to stay.

At the SNB meeting, the central bank expects gross domestic product (GDP) to expand at a pace of 1.5% this year, after rising 1.6% last year. Although not a magic number, the Swiss economy has managed to stave off a recession.

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