Release: SNB Interest Rate Decision
Current Rate: <0.25%
Date/Time: 12/15/11 at 3:30AM ET (08:30 GMT)
Swiss Economy Slows as Does Inflation:
The Swiss economy slowed quite considerably in the second quarter, posting a quarterly growth of 0.2%, the weakest since the middle of 2009. We can see the deterioration in growth over the last four quarters in the chart below and can understand the pressure that is being put on the SNB to do something to help alleviate the pressure of a high Swiss Franc.
At the same time, the annual inflation rate in the country turned negative in November, another sign of trouble for the SNB, which does not want to see the economy fall into a deflationary trap.
The data helped fuel lots of speculation that the SNB may act by either raising the EUR/CHF floor from 1.20, or that it may undertake other measures such as negative interest rates of imposing capital controls to try and stem foreign money flows.
Let's take a look at those options.
The option that we have heard about most over the last few weeks is for the central bank to hike its EUR/CHF floor/ceiling from 1.20 to 1.25 or higher. This would certainly help exporters as their goods would be cheaper in its major market - Europe - if the Swiss Franc was weaker. The imposition of the floor has been mainly successful so far as we have not seen the pair test the 1.20 level since the introduction of the intervention and foreign reserve data from the SNB did not show a large increase since the floor was announced.
From FT: But while Swiss companies, such as Nestlé and Roche, may want the franc to weaken further, loosening policy for their sake may be a mistake. After all, exports are holding up fairly well: they grew by 2.5 per cent last quarter. In addition, falling imports meant that October's trade surplus of SFr2.1bn was the second highest on record for that month. And the SFr19bn generated in the first 10 months of the year is almost two-thirds higher than for the whole of 2006, when the franc was worth about one-third less.
The implication from that quote is that while export companies have certainly seen weaker demand for their products as a result of the sharp gain in the CHF, that impact was likely much bigger when the EUR/CHF was at parity rather than where it is now. If the SNB does decide to move forward with a higher floor in the pair it would have an immediate impact on any CHF crosses with the CHF weakening.
However, if the SNB does not move to raise the floor, the EUR/CHF may fall and the CHF weakness that has been apparent recently in other crosses may also unwind.
From Bloomberg: Swiss National Bank policy makers, led by Philipp Hildebrand, will keep the franc's minimum exchange rate at 1.20 per euro when they meet in Zurich tomorrow, according to nine of 13 economists surveyed by Bloomberg.
Option #2 - Use Negative Interest Rates or Other Capital Controls:
The second option for the SNB can be to impose negative interest rates. The SNB rate is already near zero and a negative rate would mean that foreign investors would actually have to pay banks for the privilege of keeping their money in Swiss banks. This type of measure, while somewhat extreme, has been used before by the SNB in the 70′s - though unsuccessfully - and would target foreign holdings. Clients would be willing to accept such a deal in an environment where other options to park money carry very low interest rates, and when there is heavy risk aversion - like the potential unraveling of the euro-zone.
From Bloomberg: [SNB President] Hildebrand has said negative deposit rates would not help now, because most inflows are going into derivatives.
It's an attractive idea. But it's not so simple, said Sarasin economist Ursina Kubli. In contrast to the 1970s we are in a much more globalised world and the implementation would be much more difficult. And it would hurt the reputation of the Swiss banking centre.
Because of the unforeseen consequences and the damage that such a move might have on the Swiss banking sector its likely to be a last resort and the suggestion of it may be an attempt to weaken the currency through verbal intervention. It may therefore be used only in an extreme case and therefore does not look likely. It would also be implemented via a tax and would have to work its way through the government more-so than the central bank. The idea gained traction after the Finance Minister suggested it.
Option #3 - Do Nothing, Wait and See Approach:
The third option for the central bank would be to keep the EUR/CHF floor at 1.20 and to not undertake any other measures currently. While the economy is weakening, there are danger is imposing a higher floor. For one, if the SNB sets 1.25 as a floor it may have to defend it more vigorously than the 1.20 handle. If the market was able to break the SNB's intervention, then participants would be emboldened to attack the 1.20 level. The SNB still stings from the record $21 billion loss it suffered in 2010 trying to keep the CHF from strengthening. The uncertainly around the Euro-zone situation should mean flows continue to move towards the Franc in the coming months. If the SNB remains in a wait-and-see mode, even after weaker growth and inflation data the CHF has the best change of strengthening in the wake of the release.
USD/CHF - Key Resistance Broken This Week:
Taking a look at the USD/CHF from a weekly chart we see that this week saw the pair break its important resistance level of 0.9310 and has pushed above the 50% retracement of the full swing from mid-2010 to earlier this year (1.1730 to 0.7065). The implication is that during a strong period of risk aversion traders are moving towards the safety of the dollar instead of the franc, and as we anticipated the possibility of dovish action by the SNB. The next level to the topside in the longer term view is the 61.8% retracement at 0.9950. A wait-and-see SNB could see the pair give up this week's gains to retest the old level of resistance as support.
Looking at the EUR/CHF in a daily view we see that the pair has been unable to move above its key resistance at the 1.2450 area, though it has run up against that level 4 different times in the last 2 months. The pair has been setting higher lows during that span as well and has respected the 55-daily ema (blue line).
The SNB would like nothing more to see this pair finally breach that level and turn that old level of resistance into support. Option #1 would get us above that level instantly, while option #2 would help push the pair higher as well. Option #3 on the other hand will likely keep the EUR/CHF trading below that key resistance and may see the pair try and attack its lows from early December near 1.2220.