Jean-Pierre Roth: Economic recovery is continuing in Switzerland
Introductory remarks by Mr Jean-Pierre Roth, Chairman of the Governing Board of the Swiss National
Bank, at the end-of-year media news conference, Zurich, 15 December 2005.
* * *
Ladies and Gentlemen
As we have just announced in our press release, the Swiss National Bank is raising its target range for
the three-month Libor by 0.25 percentage points to 0.50-1.50%. This change will take effect
immediately. The SNB intends to hold the rate in the middle of the target range for the time being.
Economic recovery is continuing as expected. It has grown stronger and is more broad-based. The
SNB has raised its forecast for economic growth in 2005 and now expects the increase in GDP to
reach just over 1.5%. For 2006, it projects growth of a little more than 2%. The National Bank
anticipates average inflation for 2005 to remain at 1.2%. On the assumption that the three-month Libor
remains unchanged at 1.0%, it forecasts annual inflation of 0.8% in 2006 and 1.2% in 2007.
By raising its target range, the Swiss National Bank is adjusting its monetary policy to economic
developments, which are proceeding as expected. The SNB thus ensures that the inflation outlook
remains favourable. Despite the increase in the interest rate, the monetary policy of the SNB remains
expansionary and supports the upswing. As economic recovery progresses, the SNB will continue to
gradually adjust its monetary policy. If the Swiss franc were to appreciate rapidly, the National Bank
would react appropriately.
Today's increase in the three-month Libor was generally expected. Why did financial markets
anticipate this move? The answer is simple. The moderate increase in the interest rate is compatible
with our strategy of making gradual corrections to a very expansionary monetary policy, while taking
into account economic recovery. Let me clarify this statement.
Economic activity
At our monetary policy assessment in mid-September, we addressed the factors indicating an
economic improvement in the second quarter. We expected that this trend would strengthen in the
second half of the year. The movements in economic indicators over the last three months confirm this
scenario.
According to estimates by the State Secretariat for Economic Affairs (seco), real GDP in the third
quarter exceeded the previous quarter by an annualised figure of 4.3%. With respect to the year-back
level, it was up by 2.3%. Together with the GDP figures for the third quarter, seco also presented
revised figures for the first two quarters. The new figures are substantially higher than before, even
after the considerable increase in the figure for the first quarter that was presented in September. Most
observers were surprised by the size of the growth estimate for the third quarter. What is more, the
retrospective revisions have considerably modified the perception of the economic situation in the first
half of the year. Nevertheless, interpretation of the quarterly estimates is difficult in view of the sizable
fluctuations in final demand and the fact that the main factor impacting on GDP momentum are
changes in inventories. Other indicators, such as the consumer confidence index, company
expectations, labour demand and the continued low level of inflation expectations, appear to indicate a
more modest level of economic momentum.
Despite the uncertainty with respect to the GDP estimates, the information currently available to us
indicates that economic recovery has accelerated over the past few months. Fourth-quarter indicators
point to a continuation in the economic upswing.
Although export growth is slowing, international demand remains robust. This momentum is
increasingly shifting into the domestic sector, where it is acting as a stimulus. Gradually, the utilisation
of industrial production capacities is improving. Meanwhile, companies expect demand to pick up over
the next few months.
There were signs of a recovery in corporate investment in the third quarter. Over the next few
quarters, a high utilisation rate of technical capacity in industry and a more favourable sales outlook
are likely to provide greater support for investments in equipment and a gradual increase in labour
demand. As a result, the disequilibrium in the labour market is likely to diminish.
In the last quarter, private consumption remained strong. Since employment can be expected to
increase over the course of 2006, consumer confidence should strengthen. By contrast, the stimulus
provided by construction investment is likely to subside next year. In particular, we may expect that,
after three years of robust growth, investments in residential construction will stagnate at a high level.
Overall, we project GDP growth of just over 1.5% this year. Previously, we had expected growth to
reach about 1%. To a large extent, this correction to our growth forecast is due to seco's revision of
the figures for the first two quarters. For 2006, we forecast economic growth of a little more than 2%.
This would take GDP growth to a level above the potential growth path for the Swiss economy. The
output gap - i.e. the gap between normal and actual utilisation of resources - will diminish.
Monetary development
Alongside the figures for the real economy, movements in monetary and credit aggregates also
indicate that economic recovery is underway. Since adopting a resolutely expansionary monetary
policy three years ago, mortgage lending has grown at an annual rate of over 5%. We continue to
monitor developments in the real estate market closely. Since September, other loans have also
recorded positive rates of growth with respect to year-back figures. In the past, a development of this
kind usually indicated a strengthening in economic recovery.
The economy is well supplied with liquidity as a result of the expansionary monetary policy. Although
the growth of the broadly-defined monetary aggregate, M3, had fallen to 1% in October 2004, it has
since climbed back to over 6%. However, excess liquidity will be gradually reduced as a result of the
interest rate increase announced today. In this way, we aim to ensure that price stability is not
endangered in future.
The monetary policy decision
The economic and monetary situation has developed in the way we anticipated. The inflation outlook
prior to today's decision was largely in line with the figures presented at the last monetary policy
assessment. For 2006, however, we forecast a slightly higher level of inflation to that presented in the
last assessment. This is due to revisions made to certain figures that point to a higher rate of utilisation
in the economy.
In view of this inflation outlook, what is the justification for our decision to increase the target range for
three-month Libor by 25 basis points? While we anticipate falling rates of inflation next year, this
decline is not relevant in terms of monetary policy. Recent inflation levels of over 1% are probably
largely due to the rise in oil prices which began in the first half of 2004. At the time, we decided not to
take this increased inflation into account in our monetary policy decisions, due to the fact that its
consequences could not be neutralised through monetary policy measures. It seems logical, therefore,
not to take account of a decline in inflation attributable to subsiding oil prices, particularly since this
drop also results from a statistical effect. A number of inflation components are likely to persist at a low
level, even in 2006. We are working on the assumption that the prices of imported products will
continue to fall, due especially to the continued pressure exerted by international competition. This will
have a dampening effect on the domestic price level. All of these factors mean that some of the gains
in productivity will be passed on to consumers in the form of price reductions.
Since there is a considerable lag between the adoption of monetary policy measures and their impact
on prices, monetary policy does not affect price developments in the near term. Consequently, the
National Bank is guided by the medium-term inflation outlook rather than the short-term forecast. The
inflation forecasts published since 2003 show high rates of inflation at the end of each forecast
horizon. This makes it clear that we cannot continue our expansionary monetary policy for an unlimited
period of time. The three-month Libor was already lifted in June and September 2004, each time by 25
basis points. Because the economy weakened in the fourth quarter of 2004, there was an
improvement in the inflation outlook at the monetary policy assessments of December 2004, and
March and June 2005. Consequently, a decision not to undertake further increases in the rate of
interest was appropriate. However, the forecast of mid-September 2005 indicated that there would be
no further improvement in the inflation outlook. Nevertheless, we decided not to increase interest rates
at that time. We determined not to take any action because of the fact that oil prices had attained
record heights just before our monetary policy assessment. It was not possible at the time to fully
assess the impact on the economy and on inflation.
If monetary policy had remained the same at this assessment, the medium-term inflation outlook
would once again have been unchanged. In the meantime, however, the room for manoeuvre
available to monetary policy has declined. Our inevitable concerns with respect to the high price of oil
in September have been dissipated by the favourable developments in the economy. As a result, we
have decided to increase the target range for the three-month Libor by 0.25 percentage points.
Consequently, this decision is in line with the statements we made at the last monetary policy
assessment.
Inflation forecast graph
I now turn to the current inflation forecast, which is based on the assumption of a change in the
threemonth Libor, to 1.0%. The graph depicts the current and the previous forecasts. The dashed red curve
represents the new forecast, which covers the period from the fourth quarter of 2005 to the third
quarter of 2008. It summarises the inflation outlook, following today's increase in the rate of interest.
The dash-dotted green curve shows the inflation forecast at the time of the last monetary policy
assessment and is based on a three-month Libor of 0.75%.
The two forecasts are very similar for 2006, and show receding rates of inflation due to the fact that oil
prices are not increasing any further. As of 2007, the new inflation forecast lies below the previous
one. This reflects the dampening effect of today's interest rate decision on future inflation.
The forecast shows that there is no immediate inflation risk. At 0.8% and 1.2% in the coming two
years, the expected rates of inflation remain low. However, it is evident from the inflation dynamics
that, even with a three-month Libor of 1.0%, monetary policy has an expansionary effect.
With today's decision to increase the three-month Libor by 25 basis points, we are adhering to our
previous monetary policy course. We continue to support the economy, using the leeway available to
us. This should guarantee price stability in the longer term. If the Swiss franc appreciates rapidly, the
National Bank will respond appropriately, and is keeping all its options open for such an eventuality, as
it has in the past.
Observed inflation December 2005
Inflation forecast of September 2005 with Libor at 0.75% and of December 2005 with Libor at
1.00%
Inflation forecast of December 2005 (57 kb)