Thomas Jordan: The Swiss National Bank's monetary policy after the
discontinuation of the minimum exchange rate
Speech by Mr Thomas Jordan, Chairman of the Governing Board of the Swiss National
Bank, at the 107th Ordinary General Meeting of Shareholders of the Swiss National Bank,
Berne, 24 April 2015.
* * *
Mr President of the Bank Council
Dear Shareholders
Dear Guests, dear School Students
Since 15 January, the Swiss National Bank (SNB) has once again been coming to terms with
a whole new set of challenges. On that day, the Governing Board decided to discontinue the
minimum exchange rate because the international environment for the SNB's monetary
policy had changed dramatically. The end of the minimum exchange rate of CHF 1.20
against the euro has far-reaching implications for our economy. It is therefore
understandable that our decision triggered strong reactions. Yet had we continued to
maintain the minimum exchange rate for a certain period, the consequences for our country
would have been much more severe.
In my talk today, I would like to explain to you in detail our reasons for discontinuing the
minimum exchange rate. The SNB attaches great importance to clarifying its monetary policy
decisions. This is, on the one hand, an important part of our statutory duty of accountability to
parliament. On the other, it is a prime concern of ours that the general public and, in
particular, you, our shareholders, should understand our monetary policy.
I will begin by talking about the prominent issues related to the discontinuation of the
minimum exchange rate. This will be followed by our present assessment of the Swiss
economy and price developments and an explanation of our current monetary policy.
Alongside our willingness to intervene on the foreign exchange market as necessary,
negative interest on SNB sight deposits plays an important role in monetary policy. I would
therefore like to look at this subject in greater detail today.
Rationale for discontinuing the minimum exchange rate
Let us begin with the reasons for discontinuing the minimum exchange rate. In the course of
2014, there were growing signs that a US exit from a highly expansionary monetary policy
was drawing closer. In the euro area, by contrast, there was increasing evidence that
monetary policy would be eased further. Against this backdrop, the euro depreciated
considerably against the US dollar. These diverging monetary policy stances in the major
currency areas affected the Swiss franc in two different ways. Like the euro, the Swiss franc
weakened against the US dollar. Against the euro, however, it gradually approached the
minimum exchange rate of CHF 1.20. At that time, the weakening of the euro had not yet
cast doubt on the sustainability of the minimum exchange rate. Consequently, at the
monetary policy decision in mid-December, we made the decision to leave monetary policy
unchanged.
Shortly after our monetary policy decision, the economic crisis in Russia escalated.
Subsequently, the SNB had to make very substantial interventions in the foreign exchange
market to enforce the minimum exchange rate. In order to support the minimum exchange
rate, we introduced negative interest on sight deposit account balances at the SNB.
At first, the situation quietened down again. However, this proved to have been the calm
before the storm. Due to growing expectations that there would be a further substantial
relaxation of monetary policy in the euro area, the euro weakened again significantly in the
first half of January 2015. In the wake of this downturn, pressure on the minimum exchange
rate increased enormously. Unlike the situation in 2012, when the monetary policy stance in
the US and the euro area remained unchanged, it became evident that this time the
minimum exchange rate could only be enforced through permanent currency interventions of
rapidly increasing magnitude. In other words, the minimum exchange rate of CHF 1.20 per
euro was no longer sustainable.
Adhering to the minimum exchange rate would have led to an uncontrollable expansion of
our foreign currency holdings and, thus, of our balance sheet, potentially to a level several
times Swiss GDP. The risks associated with a balance sheet expansion of this scale would
have been out of all proportion to the benefits of the minimum exchange rate for the Swiss
economy. In particular, an expansion of the balance sheet would have severely impaired the
SNB's ability to conduct monetary policy in future. Such a long balance sheet would have
made further monetary policy measures substantially harder. At the same time, we would
have jeopardised the fulfilment of our mandate in the long term, since reabsorbing such a
huge volume of liquidity once monetary policy began to normalise would have been very
difficult.
At its monetary policy assessments, the SNB had analysed the costs and benefits of
adhering to the minimum exchange rate. On the basis of this kind of analysis, the Governing
Board concluded, on 15 January, that a minimum exchange rate of CHF 1.20 per euro was
no longer sustainable, and thus justified, from a monetary policy point of view. If it had
ignored the changes in the international environment, the SNB would have jeopardised its
credibility. It would have been irresponsible to maintain the minimum exchange rate even
longer and thoughtlessly accept the high costs of this policy, without considering its
sustainability.
Once we had reached this conclusion, swift action was necessary. Holding off any longer
would have increased pressure on the minimum exchange rate because of mounting
speculation. Had we delayed the discontinuation, the turmoil on the financial markets would
have been no less severe. However, the impact on the Swiss economy would have been
stronger and the losses on the SNB's balance sheet would have been greater.
Ladies and gentlemen, the decision of 15 January has far-reaching consequences and was
anything but easy for me and my colleagues on the Governing Board. We were aware that
discontinuing the minimum exchange rate would have significant effects on the outlook for
the economy and inflation. However, as the Governing Board, we must be prepared to make
decisions that may have negative effects in the short term. We are convinced that postponing
a decision which was ultimately unavoidable would have caused far higher costs in the long
term.
Review and appraisal of the minimum exchange rate
As mentioned before, the minimum exchange rate of CHF 1.20 per euro was the SNB's key
monetary policy instrument for almost three and a half years. I will therefore begin my brief
appraisal of this instrument in the summer of 2011, shortly before it was introduced. That
summer saw a renewed deterioration in the outlook for the global economy, which was only
hesitantly recovering from the worst recession since the 1930s. In addition, at that time, the
European debt crisis was escalating again. In the US Congress, a protracted battle about
raising the debt ceiling was under way. Given these developments, uncertainty on the
financial markets was increasing very rapidly, and demand for Swiss francs soared. The
Swiss franc appreciated very sharply against all major currencies, including the US dollar. In
August 2011, the Swiss franc was, by any measure, massively overvalued. The SNB began
by expanding liquidity on the money market to an extent that was historically unprecedented.
However, the effect of this liquidity expansion on the exchange rate was only temporary.
Subsequently, on 6 September 2011, we decided to introduce the minimum exchange rate
as an exceptional and temporary measure.
Through the minimum exchange rate, the massive overvaluation of the Swiss franc was
partially corrected. In this way, the SNB countered the acute threat to the Swiss economy
and the risk of a deflationary development. The minimum exchange rate served the Swiss
economy well. It helped to see it through the turmoil of that period and bought some time so
that the economy could adjust to the new conditions, at least to some extent. Production and
employment recovered faster than in many other countries. Over the past two years, GDP
has grown by approximately 2% on average. The Swiss economy is now better placed than it
was in 2011.
New parameters for the economy: assessment and outlook
What is our current assessment of the economic outlook, given the changed situation?
Before discontinuing the minimum exchange rate, the SNB was expecting growth of some
2% for this year as well. We now anticipate GDP growth of just under 1%. With the end of the
minimum exchange rate, Switzerland faces more difficult times ahead. Overall, the Swiss
franc is once again significantly overvalued. The sharp, and above all abrupt, appreciation of
the Swiss franc represents a major challenge. Our economy has time and again
demonstrated how adaptable and innovative it is, and it can certainly handle a gradual,
longterm appreciation in the real exchange rate. However, the potential effects of the latest sharp
Swiss franc appreciation should certainly not be underestimated. We have great respect for
the businesses and their staff who are now having to make challenging adjustments. At this
time, the Swiss economy must - more than ever before - build on its structural strengths and
flexibility. Doing so will enable it to preserve its international competitiveness and, with it, the
prosperity of our country.
Apart from the exchange rate, future economic growth will depend on further developments
in the global economy. In this respect, the outlook appears more favourable than in 2011.
The US economy is in better shape. In the euro area, the latest economic figures also give
cause for more optimism. Nevertheless, considerable risks also exist now, with the Ukraine
conflict and the debt problems in Greece.
Due to the new exchange rate parameters, the SNB's conditional inflation forecast has also
moved down significantly. For 2015, we anticipate inflation of -1.1% in Switzerland. As the
stronger Swiss franc leads to a decrease in import prices. In addition, the very substantial fall
in oil prices will move energy inflation deep into negative territory. However, both of these
effects are temporary. According to our inflation forecast, the negative inflation phase will be
short-lived. Sustained negative inflation or, indeed, a deflationary spiral, are not to be
expected.
Nevertheless, neither inflationary nor economic developments are optimal. We would prefer
slightly positive inflation and more economic growth. Due to the changed international
environment, however, which we are unable to influence, we have no choice but to adjust to
a leaner period, whether we like it or not.
Monetary policy of the SNB
With the end of the minimum exchange rate, the SNB has now returned to interest rate
management. However, this does not mean that we have reverted to business as usual for
monetary policy. In December last year, the SNB introduced an interest rate of -0.25%, to be
charged on sight deposit account balances held by banks and other financial market
participants at the SNB. On 15 January - concurrently with the discontinuation of the
minimum exchange rate - we lowered this interest rate again, to -0.75%. This lowering of
the interest rate makes it substantially more expensive to hold Swiss francs compared to
other currencies. Over time it is intended to cushion the impact of the discontinuation of the
minimum exchange rate and counter a tightening of monetary conditions.
Discontinuing the minimum exchange rate does not mean that the SNB will stop paying
attention to foreign exchange market developments. We will continue to take account of the
exchange rate situation in formulating our monetary policy in future.
Following the discontinuation of the minimum exchange rate, the Swiss franc initially
appreciated sharply against all currencies. The appreciation diminished somewhat in the
following weeks. However, as recent developments show, the Swiss franc may strengthen
temporarily in response to the current phase of increased uncertainty surrounding the Greek
debt problem. We are monitoring this development and its potential impact on Switzerland
very closely. We will remain active in the foreign exchange market as necessary in order to
influence monetary conditions. The Swiss franc is significantly overvalued overall. A
correction of this overvaluation is to be expected over time.
Low interest rates worldwide and the difficulties they cause Switzerland
Not just in Switzerland, but in other countries, too, central banks are facing major challenges.
After the beginning of the financial crisis, monetary policy was eased substantially across the
board. As a result, interest rates worldwide are now very low or even, in the recent period,
negative. Consequently, low or negative interest rates are not a purely Swiss phenomenon.
They are a worldwide trend which Switzerland cannot escape. As a small open economy,
Switzerland is closely linked to other countries through international trading and capital flows.
The SNB has to take this into account when formulating its monetary policy.
Traditionally, interest rates in Switzerland are lower than in other countries, since Switzerland
has long had low inflation and is also politically very stable. The Swiss economy benefits
from this interest rate advantage in the form of low capital costs. This is expressed in a
number of ways, including the high quality of infrastructure and high labour productivity.
During the financial crisis, interest rates abroad fell more sharply, overall, than in
Switzerland. Consequently, the interest rate differential between investments in foreign
currencies and those in Swiss francs had declined to almost zero towards the end of last
year. This made the Swiss franc even more attractive for investors. The Swiss franc is
equally attractive to both domestic and foreign investors. The upward pressure on the Swiss
franc is not only due to the fact that foreigners want to invest in the Swiss franc, but also
because Swiss residents invest less abroad or repatriate their international investments.
Allow me to explain this in more detail. For a long time, Switzerland has had a current
account surplus, in other words, it exports more goods and services than it imports. In
addition, the high level of international investments earns significant investment income. Due
to the current account surpluses, Switzerland has built up considerable foreign assets over
time. These asset holdings abroad were largely invested in foreign currencies, partly
because of the more attractive returns.1 The net revenue earned with the current account
surpluses has to be "re-exported" in the form of foreign securities purchases or investments
abroad. In the years before the financial crisis, inflows attributable to the current account
surplus were more or less balanced by outflows in the form of private capital exports.
Following the financial crisis, the situation changed completely. Risk appetite in Switzerland
reduced sharply. Investment of the proceeds from the current account surplus abroad by the
domestic private sector has become increasingly restrained. Moreover, a portion of existing
international investments is even being repatriated to Switzerland. This has very substantially
increased private demand for Swiss francs, resulting in upward pressure on the currency.
Some of this was absorbed by the high levels of foreign currency purchases by the SNB in
recent years.
Thus, responsibility for upward pressure on the Swiss franc cannot be attributed to foreign
investors alone. Swiss franc investment must therefore be made less attractive for all
investors. As I have just explained, it is inappropriate to differentiate between domestic and
foreign investors from a monetary policy point of view. Since foreign interest rates are close
to zero or negative, Swiss interest rates cannot remain at zero. They have to move into
negative territory in order to restore the traditional interest rate differential.
Criticism of negative interest
Let me now discuss negative interest in more detail. As I have explained, negative interest
helps to make investment in Swiss francs less attractive and thereby limit net inflows into our
currency. This reduces upward pressure on the Swiss franc and eases monetary conditions.
We are aware that the current low interest environment is very challenging for investors,
especially pension funds. Acceptable investment options are limited. For institutions that are
legally or contractually obliged to attain specific returns it is difficult to comply with these
requirements at the moment. The current low interest rate environment is a temporary
phenomenon attributable to the severe economic turmoil resulting from the financial crisis.
We expect that the economy will continue to recover, and that interest rates worldwide will
increase again. The first signs of this are evident in the US. However, looking at the
international situation, it is also clear that the interest rate in Switzerland cannot be higher
than in the rest of the world, because otherwise we would be threatened with major inflows
into the Swiss franc.
Some claim that negative interest goes against human nature and deprives the economy of
an important yardstick. However, that is not the case. The interest rate is the reward for
forgoing consumption. The resources saved in this manner are basically available for
investment. Investment, in turn, must generate a return that allows the interest to be paid.
When uncertainty is high, savings increase, on the one hand. On the other hand, however,
the increased uncertainty or the lower potential for returns causes businesses to postpone
investment. Under these conditions, therefore, the interest rate falls; in extreme
circumstances, it may even move into negative territory. Low or negative interest rates are an
expression of the fact that, in the current situation, there is a very high supply of savings
capital worldwide and a relatively low demand for investment. As soon as the global
economy has recovered sufficiently, interest rates will rise again.
With all the concern about negative interest it is important to remember that when inflation is
negative, real interest rates are higher than nominal interest rates. This is the case in
Switzerland at the moment. If inflation is lower than the nominal interest rate, the end result is
still an increase in purchasing power, even if an investment is not earning a nominal return.
In the past, the rate of inflation has often been higher than the nominal rate of interest. In
other words, in terms of real returns, there have certainly been times when saving was even
less worthwhile than it is now; times, in fact, when savings lost value in real terms.
Concluding remarks
Ladies and gentlemen, I come to my concluding remarks. As you will have gathered from my
comments today, the international environment remains extremely challenging for the Swiss
economy and the SNB's monetary policy. Interest rates worldwide have been very low for a
long time. The after-effects of the financial crisis persist and are hampering global economic
developments. At the same time, the Swiss franc is significantly overvalued and presents
major difficulties for our economy.
Nevertheless, I will venture to make two forecasts. First, that our economy will overcome
these challenges successfully. Second, that negative interest will not become the "new
normal". If the global economy recovers further and growth in the euro area increases again
more robustly, this unsatisfactory situation will change as well. Until then, negative interest in
Switzerland will fulfil a very important role - that of reducing upward pressure on the Swiss
franc, thereby supporting the Swiss economy.
Thus, eight years after the beginning of the financial crisis, the SNB is still facing
considerable challenges. In order to do our job well, we still require the full commitment of
our staff, whom I would like to thank - also in the name of my colleagues, Jean-Pierre
Danthine and Fritz Zurbrügg - for their hard work and support. We thank our shareholders
for their solidarity with the SNB. And I thank everyone, including in particular our young
guests, for taking such a great interest in the activities of the SNB.
Thank you for your attention.