There's only so much you can do to weaken your currency.....

Tuesday 23rd June 2015

There's only so much you can do to weaken your currency.....

 "Swiss franc refuses to come back to earth" , The Financial Times, p.32

Swiss officials may have no role to play in the continuing "will they? / won't they?" drama that is being played out between Greece and its Eurozone partners, but they will be hoping that a concrete deal can be struck as fervently as most. They're stuck with a problem that is looking increasingly difficult to solve, and a period of renewed confidence in the Euro (or at least some certainty that a deal might bring) might go some way to alleviating things.

On January 15th this year, the Swiss National Bank (SNB) caught everybody on the hop by abandoning its policy of keeping the Swiss franc to a value of no less than SFr 1.20 to the Euro. Unsurprisingly, the Swissie shot through parity in panic conditions but has now settled around the 1.05 level. On a trade-weighted basis, the currency has strengthened by about 12%. Such a move has obvious repercussions for exports and it was no great surprise to learn that Swiss economy contracted by 0.2% in the first quarter. So what to do about it ?

Well, cut your interest rates to the lowest in the world, for one thing. The SNB has set its key deposit rate at minus  -0.75% , and its target range for 3-month Libor at minus -1.25% to -0.25%. But the franc remains stubbornly strong, buoyed by Switzerland's "safe-haven" status as the Greek crisis drove investors out of the euro in particular.

Frankly, the SNB's options now look limited, and not particularly attractive. They could push interest rates even further into negative territory, or broaden the range of assets trading with negative yields. It could intervene in foreign exchange markets, though this can be hugely expensive and rarely survives repeated examination by the markets in the long-term. It could bring in an asset purchasing programme of its own (QE) to further ease monetary conditions, but both these last two options have the kind of detrimental effects to its balance sheet that it was trying to avoid when it abandoned the cap in the first place.

For now, the SNB looks to be taking the option of doing nothing further and hoping that returning confidence in the euro and basic foreign exchange fundamentals, which is to say interest-rate differentials, will naturally engineer a fall in the value of the franc. Sounds reasonably logical, doesn't it, but it's assuming quite a lot.