The Swiss National Bank’s word reshuffle on Thursday may only be a baby step toward normalisation, but it’s still loaded with ambition.
The franc’s drop against the euro “is helping to reduce to some extent, the significant overvaluation of the currency,” according to officials whose previous refrain was simply to complain that it was “significantly overvalued.” The new conjugation may look similar, but it also hints at the hopes of a central bank that would dearly love to shake off the shackles of a foreign-exchange regime that has kept monetary policy in a deep freeze of ultra-low rates.
“I’d say it’s a first step in the direction of normalisation,” said Stefan Grosse, economist at Nord LB in Hanover. “The franc hasn’t hasn’t yet reached the level they’d like, but it’s a step.”
Officials at the mercurial central bank, led by President Thomas Jordan, have used the “significantly overvalued” language in their verbal repertoire since early 2015, when massive fund inflows forced them to drop their currency cap and impose a policy of negative rates, laced with foreign-exchange interventions. On Thursday, they reiterated their threat to keep that up as they left borrowing costs unchanged and relabelled the franc with the slightly less extreme description of “highly valued.”
“In sum, we can determine that the significant overvaluation has been reduced somewhat,” Jordan told broadcaster SRF in an interview. “But – very important – the franc remains highly valued, overvalued, and we still have a very fragile situation on foreign currency markets,” he said, adding he saw “absolutely no grounds to change” policy at the moment.
An abatement of risk aversion and better economic momentum in the single currency area have caused the franc to drop more than 6% against the euro this year. It dropped to 1.15380 per euro in early August – a level not seen since the SNB scrapped its 1.20-per-euro currency ceiling – playing into the hands of the central bank, which has been trying to stem its rise for years. The franc was down 0.3% at 1.15005 per euro in Zurich.
Yet inflation remains feeble in Switzerland and economic growth fell short of that in the neighboring euro area during in the first half of 2017. The SNB cut its GDP outlook for this year and now predicts an expansion of just under 1%, compared with a previous forecast of roughly 1.5%. Consumer prices are foreseen increasing 0.4% in 2017 and 2018 and 1.1% in 2019.
An uptick in risk aversion - caused for example by another North Korean missile test - could cause the franc, considered by foreign currency traders to be a haven at times of market stress, to appreciate again. And although the franc has dipped against the euro, it has appreciated against the dollar in recent weeks, as the SNB acknowledged.
It kept its deposit rate at a record low of minus 0.75%, as forecast by all economists in a Bloomberg survey. It also maintained its target range for three-month Libor at between minus 0.25% and minus 1.25%.
“For us, it’s not yet a sign that a monetary policy switch lies in store, since they said the foreign currency market situation remains fragile,” said Alessandro Bee, an economist at UBS Group in Zurich. “They’d want to see the weaker franc become sustainable before they adjust monetary policy.”
While European Central Bank and SNB policymakers are battling weak price pressures, soaring inflation in Britain prompted Bank of England officials to signal that they may need to reduce stimulus in the near future on Thursday.
The SNB is aiming to achieve a positive annual rate of inflation below 2%. It has been using interventions to stoke consumer price pressure, causing its holdings of foreign currency to balloon to 717bn francs ($744bn). The negative interest rates is designed to maintain the rate differential with the euro area, making franc-denominated assets less attractive for investors.
Economists expect the SNB only to begin tightening once the ECB in Frankfurt starts to normalise policy. President Mario Draghi reiterated last week the asset purchase program would run until at least the end of this year, and that interest rates would remain at their current record-lows “well past” the end of quantitative easing.
“They’ll be very happy if this situation persists of a somewhat weaker franc,” Credit Suisse International Wealth Management Chief Economist Oliver Adler said in a Bloomberg radio interview with Anna Edwards. “That will simply mean that they don’t have to intervene any more, but actively they will not do anything in our view. They will certainly not move interest rates in our view ahead of the ECB.”
The headquarters of the Swiss National Bank in Bern, Switzerland. The franc’s drop against the euro u201cis helping to reduce to some extent, the significant overvaluation of the currency,u201d according to the SNB officials.
