Switzerland: SNB Intervenes on FX and Bond Markets

The Swiss National Bank (SNB) today, in an unprecedented move, utilised a large array of non-standard instruments to ease monetary conditions. As expected, the SNB lowered the target band for the 3M LIBOR to 0.00 - 0.75 % and intends to secure 3M LIBOR around 0.25 % - i.e. a 25bp reduction in the policy rate. More importantly, the SNB announced that it will (i) increase liquidity substantially by engaging in additional repo operations, (ii) buy Swiss franc bonds issued by the private sector, and (iii) intervene in the foreign exchange market, buying foreign currency to prevent a further appreciation of the Swiss franc.

As a result, the Swiss franc weakened significantly and EUR/CHF jumped more than 3% higher, breaking shortly above 1.53 (chart 2). This is the first time the SNB has intervened in the currency market since 1995. The intervention is not because SNB considers the Swiss franc to be out of line with fundamentals, but rather that the large appreciation of the franc during the credit crisis has brought about an "inappropriate tightening of monetary conditions".

The very aggressive policy move came as the result of a marked revision to SNB's growth and inflation outlook. The SNB now expects real GDP to fall by between 2.5% and 3.0% in 2009 and cites a sharp slowdown across all sectors. That is, the sharpest drop in economic activity since the data series begins in 1980. The rapid deterioration in economic conditions and falling commodity prices have also led the SNB to revise down its inflation forecast, which is now expected to be -0.5 % in 2009 and stay virtually at zero for the following two years (chart 1). In addition, this forecast is made under the assumption of 3M LIBOR unchanged at the current very low target level of 0.25%.

We expect monetary conditions to remain very loose throughout 2009 and expect the 3M LIBOR target to remain at 0.25% for the next 12 months. Additional action from the SNB is likely to depend on the development in credit growth, long-term interest rates, and monetary conditions in general. We also expect that we have seen the low in EUR/CHF and that the SNB will remain dedicated to avoid further CHF appreciation. We will publish updated currency forecasts tomorrow 13 March in FX forecast update.

Danske Bank
http://www.danskebank.com/danskeresearch

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