Monetary policy is the most relevant factor for traders, which we will discuss in detail in this article. Other factors, such as the independence of the central bank, are also significant but more common in emerging market economies.
MAIN ECONOMIC GOALS OF THE SWISS NATIONAL BANK
The Swiss National Bank, or SNB, states that their main objectives are:
- Price stability - which means keeping the exchange rate and/or inflation stable
- Economic development - which means supporting the growth and stability of the economy
Price Stability
Monetary policy is very crucial for the whole economy. It prevents excessive inflation and tries to anchor inflation expectations so that the economy can expand at a normal pace. To maintain price stability, the Swiss National Bank and their monetary policy committee (MPC) have set an inflation target of below 2% for CPI per year.
If inflation rises above the target of 2%, the Swiss National Bank may have to raise interest rates. The higher interest rates may cause an appreciation in the Swiss Franc (CHF) as investors increase capital flows into the higher yielding currency. It may also have a negative impact on the stock market, as businesses will have to pay higher rates to borrow and equity valuations will be discounted at a higher interest rate. Monetary policy data can be found on our economic calendar.
However, it is not always the case that the Swiss National Bank will raise interest rates if inflation is above target. In some cases, like when GDP growth is still low or negative, the Swiss National Bank may keep interest rates low to stimulate the economy. It is important to understand that the Swiss National Bank will be looking for a balance between healthy inflation and economic growth.
Economic Development
Economic developments are connected with monetary policy. Changes in economic outlook often cause central bankers to update their monetary policy plans in order to stabilize the economy.
THE EFFECT OF SNB INTEREST RATES ON THE SWISS FRANC (CHF)
The Swiss National Bank can influence the value of the Swiss Franc by changing interest rate expectations. Traders should understand that currencies appreciate/depreciate when interest rate expectations increase/decrease, not just from increases in the actual interest rate.
The Swiss Central Bank, like most central banks, use different monetary policy tools to control the interest rate. The forex market normally prices in current interest rate expectations, changes in these expectations can cause the Swiss Franc to appreciate or depreciate. The Swiss National Bank can do this by giving the market forward guidance (informing the market) that they anticipate more hikes or less hikes (or cuts) in the future.
- The general principle for how interest rates affects the Swiss Franc and the stock market are given below:Higher interest rate expectations strengthen the Swiss Franc and negatively affect equity values. Lower interest rate expectations weaken the Swiss Franc and positively affect equity values. Interest rate impact on the economy
- The Swiss National Bank reduces interest rates when it wants to boost the economy (GDP) and raises interest rates when it wants to contain inflation caused by an economy operating above potential (overheating).
Lower interest rates boost an economy in a few ways:
Businesses can borrow money and invest in projects that will earn more than the risk borrowing rate. When interest rates are lower the stock market is discounted at a lower rate, leading to an increase in stock market values which causes a wealth effect. People invest their money into the economy (stocks and other assets) because they can earn more in these assets than at currently low interest rates.
How to trade SNB interest rate decisions
The table below shows the possible scenarios that come from a change in interest rate expectations, traders can use this information to forecast if the currency is likely to appreciate or depreciate and how to trade it.
| MARKET EXPECTATIONS | ACTUAL RESULTS | RESULTING FX IMPACT |
|---|---|---|
| Rate Hike | Rate Hold | Depreciation of currency |
| Rate Cut | Rate Hold | Appreciation of currency |
| Rate Hold | Rate Hike | Appreciation of currency |
| Rate Hold | Rate Cut | Depreciation of currency |
