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Why SNB Opted For Unconventional Monetary Policy ?

January 16, 2015

SNB move was sudden and had impacted global foreign exchange market and investors in many ways. The surprise decision to terminate the floor surely caught everyone wrong footed impacting currencies, stocks, gold, oil, brokerage houses and traders or businesses that has Swiss connection. One such example are the CHF borrowers opting for loan due to zero interest rate policy. Swiss National Bank introduced EURO/CHF floor of 1.20 CHF per Euro on Sept 6, 2011.

Swiss business community/exporters must be in a state of shock, as it has upset all the budget calculations. Swiss companies holding foreign currencies/receivables are faced with huge loses, as the move has impacted its earnings.

SNB introduced floor due to unrest in the Euro-zone region and fearing fiscal worries, as it preferred to defend its exports. It is difficult to make correct assessment that after defending Swiss interest for almost 40 months then why SNB opted for a sudden policy shift knowing about its immediate impact. With Euro-zone once again in hot water, Swiss economy still enjoys strength backed by strong fundamentals. It is already blessed with huge current account surplus.

There are many theories/factors behind Swiss Central Bank’s move, but market in due course of time will get back to normal and ultimately Swiss Franc will stabilized. Swiss related market will trade according to fundamentals based on demand and supply. Market is aware and should know that such policies are not meant forever and there is always a time limitation to such stance.

In present times, Europe is differently placed. At the time of floor introduction in Sept 2011, SNB feared deflation. It was of view that Swiss currency was massively overvalued posing threat to its economy. It then decided to enforce minimum rate with determination to buy foreign currency in unlimited amount.

SNB’s move to remove floor may be disturbing news for all those that have taken the hit. But if Swiss Central Bank’s performance is evaluated from the time of introduction of floor, till date, it is at much ease.

Statistic suggest that decision to introduce floor proved to be fruitful, because in September 2011, SNB’s Fx Reserves was CHF 225 billion as compared to present CHF 495.1 billion.

Hence, it is not inappropriate to say that SNB defended its economy successfully at a time when global economy was struggling to perform, as Swiss economy made substantial gain during this period.

One area of loss while defending peg is its purchase of European currency against sale of CHF, which is estimated be over 50 pct of SNB’s portfolio. Therefore, best guess is that since, SNB is comfortably placed. It is a possibility that it has decided to join hand with European Central Bank, which is likely to announce quantitative easing (QE) in its next policy announcement due on Jan 22 that could be sizable in amount.

Though German Central (BUBA) may dislike the idea, but ECB QE is surly coming after obtaining legal permission. US Dollar’s strength and possibility of US interest rate hike in the later part of the year could also be the comforting factor for SNB.

The overall market reaction is understandable, as global market behaved in similar manner in September 2011 at the rime of introduction of floor. SNB is not worried for the portfolio management losses because protection of its economy is its priority.

It seems well prepared to defend its currency, as it has clearly indicated that it would continue to intervene to support its economy. This is why it has simultaneously adopted negative interest rate policy, which should provide comfort to the domestic borrowers.

There is lot of talk of strong CHF, which is also considered as a safe haven currency. Let me jot down the numbers, prior to the introduction of floor on September 6 2011, excessive volatility was witnessed and the currencies and gold levels were CHF @ 0.8810, Euro @ 1.4210, GBP @ 1.6150, JPY @ 77.20 and GOLD $ 1854.

During this period quite a few economic events took place. The size of FED and ECB balance sheet was then almost same, USD 2.7 Trillion respectively. Today Fed is in winding process and the estimated size of its balance sheet is USD 4.2 Trillion versus ECB size of USD 2.6 Trillion, which will expand.

Since, couples of major events are due this week, ECB monetary policy announcement and Greece election due on January 25, market will remain choppy. Hence, market volatility could be there for next couple of weeks before it stabilizes.

However, SNB will remain firm in its commitment and will not hesitate to intervene, as it still thinks that its currency is overvalued. It does not like the idea of safe haven status, which it considers as growth hindering factor. It has already chopped sight deposit rate by 0.5 pct to ( negative – 0.75pct )

All indications are that big QE could be coming, if true US Dollar ,Gold, Stock and Bond could be big gainer, but anything in a EURO ½ to ¾ Trillion range could see market moving in opposite direction. However, USD would remain on the winning side.

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