The ECB plays its last card and will force the SNB to react

The following commentary on the monetary policy decision by the European Central Bank is courtesy of Laurent Bakhtiari, Market Analyst at IG Switzerland.


Laurent Bakhtiari, IG

Laurent Bakhtiari, IG

As suggested in our previous comment, the ECB decreased its main refinancing rate to 0.00%. However, the ECB did not decide to act solely on this rate, it also cut the deposit facility rate by 10bps to -0.4%, the lending facility rate by 5bps to 0.25% and to increase the amount of the QE by €20bn to €80bn per month.

Draghi is definitely using all the tools he has at his disposal to act on inflation. After poor inflation and GDP figures, he hinted in February that he would take measures, which made the markets position themselves accordingly. However, they did not expect such a combination of bold moves, which made the price of securities experience a high volatility. For instance, on the news, the German DAX gained 290 points and the EURUSD lost 140 pips. Consequently, the news impacted other assets such as gold and oil which are denominated in USD.

This impacts greatly our situation here in Switzerland and especially the situation of the Swiss Franc. In one week, the SNB will have to announce its rate decision as well. After the previous ECB meeting, they did not act, since the ECB failed to deliver. But after this powerful move, they will be forced to react, in order to keep the Swiss Franc at “acceptable levels”. Nowadays, the SNB is not in the action anymore, but in the reaction.

The SNB already stated that a franc under the 1.10 level seems overvalued and that they need to keep the rate differential between the two currencies. All these elements make us think that there is almost no doubt on a rate decrease. In a certain way, the SNB does not have the control of its decisions to decrease rates anymore. However, there might be a reason to rejoice for the SNB: by decreasing three of its main rates, the ECB played its last card. The rates cannot be decreased infinitely and the QE cannot be constantly increased  neither.

IG GroupSo far, the rate was set at the middle of a range going from -0.25% to -1.25%. The SNB has now 2 choices: decrease the rate to -1% or -1.25%, or shift the range. Our view is definitely that the SNB will act and will decrease the rates by 0.25 points to -1%. But that will not give enough leeway anymore to the Central Bank. So they will probably shift their band as well to -0.5% to -1.5%.

The EURCHF sharply weakened after the news but strengthened afterwards, which indicates that the SNB intervened. In fact, on other pairs such as the EURUSD, the EUR did not strengthen afterwards and the USDCHF strengthened. This will probably be shown in the next Foreign Currency Reserves publication. We continue to think that, in the short-term, we should return to levels above 1.10 and stabilize around that level for the rest of the year.

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