Switzerland Watch – SNB to lean against the wind

by: Georgette Boele

In this publication: Despite the recent weakening, the franc is still relatively strong. Lower prices dampened the impact of the strong franc on exports. Exports and retail sales remain weak… while manufacturing is a bright spot… and disinflationary forces are still present. But it is too early to celebrate as the economy remains vulnerable. SNB continues its policy to prevent strengthening of the franc… which is clearly visible in the rise of FX reserves
We expect EUR/CHF to remain close to 1.10… because of opposing forces.

160607-Switzerland-Watch-1.pdf (324 KB)


On Thursday 15 January 2015, the Swiss National Bank announced a discontinuation of the minimum exchange rate of 1.20 in EUR/CHF and lowered interest rates by 50bp to
-0.75%. This resulted in a dramatic rise of the Swiss franc. Afterwards, the Swiss franc gave up some of its gains and EUR/CHF seems to have settled around 1.10. In this note we examine the impact of this action on the Swiss economy and assess the outlook for the Swiss franc.


Lower export prices dampened the impact of the strong Swiss franc…

During the months following the sharp appreciation of the Swiss franc, signs of a considerable future drop in Swiss exports emerged. In the end, the impact on exports was modest, mainly because Swiss exporters lowered their prices as well (see graph below). The graph below shows that there is a tendency to adjust prices in reaction to a strengthening Swiss franc. Recently, the franc has weakened and export prices have started to increase slightly with a lag of around 3 months.


Despite the recent weakening of the franc and some pick up in export prices, the economic picture looks far from convincing. After exports started to contribute to GDP growth again in the second half of 2015, in Q1 2016 they slightly reduced growth. However, it is likely that this is more a reflection of weak global trade than Swiss related factors, mainly because a cheaper Swiss franc has made Swiss exports more attractive.


Besides exports, retail sales have also been very weak, weighing down economic growth. The manufacturing sector is a bright spot with the reading of the PMI close to 56. The Kof leading indicator has also recovered considerably but the upside seems limited from here.


Disinflationary forces still present

Disinflationary pressures are still present. Consumer price inflation is rising gradually towards zero, while core inflation yoy is zero. Swiss single family house prices are rising but at a considerably slower pace than some years ago. On the other hand, the labour market is easing somewhat reflected by a modest rise in the unemployment rate. Meanwhile, wages have come down somewhat. The overall picture is some cooling in the housing market and the labour market while consumer price inflation is slightly picking up. So there are still disinflationary forces.


But not out of the woods yet

The combination of weak exports, weak retail sales and cooling in the labour market underline that economic growth is still vulnerable. In addition, disinflationary forces need to ease further. These are the important reasons for the Swiss National Bank to continue intervening in currency markets and to keep monetary policy loose. This morning SNB foreign exchange reserves were released and they showed a further increase. The last thing the SNB wants is a sharp strengthening of the franc, which would threaten Swiss exports and also push inflation lower again. We expect that the SNB will continue its current strategy as long as:
1. the ECB is easing monetary policy
2. the global economy remains weak
3. global trade remains weak
4. Europe’s political situation remains uncertain, due to for instance the Brexit referendum (23 June) and Spanish elections (26 June 2016)

We expect EUR/CHF to stay close to 1.10 as SNB’s actions, loose monetary policy abroad and waves of risk aversion will balance each other out.