The Swiss National Bank (SNB) has indicated that it may lower interest rates due to projected inflation decline. This is seen as a necessary adjustment to promote a more expansive monetary policy. However, the drop in inflation is primarily due to reduced prices of imported goods caused by the strength of the Swiss franc. Domestic inflation, on the other hand, remains high. It is expected that domestic inflation will ease next year, particularly as the impact of recent rent increases fades. Despite these adjustments, it is unlikely that domestic prices will enter a deflationary phase.
The SNB's announcement about interest rate cuts is a warning to the foreign exchange market, indicating that the central bank will not tolerate further appreciation of the Swiss franc. However, using interest rates as a tool for currency management is considered ineffective. Previous interest rate reductions have temporarily weakened the franc, but this effect has faded over time. Fluctuations in interest rates in Switzerland do not significantly influence the buying or selling of francs, as the currency is generally unattractive to international investors.
Investing in Swiss francs presents challenges, especially for large-scale investments. Unlike other currencies, there are no equivalent money market instruments that allow for the safe parking of substantial amounts of capital. The Swiss money market primarily operates through time deposits at banks, which carry credit risks. The bond market in Switzerland also has limited liquidity, making it difficult to trade Confederation bonds. Corporate bonds face similar challenges, resulting in high transaction costs.
The equity market offers opportunities for tradable securities, particularly among larger Swiss Market Index (SMI) stocks. However, investors seeking Swiss francs for currency purposes are often hesitant to engage in the equity market due to associated risks. The SNB is concerned that domestic investors have a disproportionately high allocation in Swiss francs while underinvesting abroad. This trend is unlikely to change with further interest rate cuts, as higher interest rates in foreign markets have historically attracted investors. Swiss investors have experienced losses in foreign currencies, which reduces the appeal of foreign currency bonds and often leads to hedging against currency risks. As a result, any Swiss francs sold for investment are typically repurchased in the forward market, resulting in a negligible effect on the currency.
The demand for Swiss francs is driven by speculation on the currency's appreciation and the desire for its security as a safe haven. In the current geopolitical climate, the upward pressure on the franc is expected to continue. If the SNB wants to counteract this trend, it may need to intervene directly in the foreign exchange market, which would likely increase foreign exchange reserves. Lower interest rates primarily affect the domestic market, with the real estate sector already responding to previous cuts. There has been an increase in demand for real estate, leading to rising prices. This suggests that the economy, including the real estate market, does not need additional stimulus from further interest rate reductions. The SNB's focus on managing the currency through interest rates may overlook the broader implications of its monetary policy on domestic economic conditions. The effectiveness of the SNB's strategies in stabilizing the franc and supporting the economy is a topic of discussion among financial analysts and investors.