The SNB signals more rate increases are likely

On 22 June the Swiss National Bank (SNB) increased the policy rate by 0.25%, a smaller step than at previous meetings, bringing it to 1.75% (see Chart 1). The smaller size of the rate adjustment acknowledges that the peak in rates is now close. However, another 0.25% rate increase in September is a possibility. The SNB repeated that additional rate rises “cannot be ruled out”. Furthermore, the central bank remains “willing” to sell foreign currency to strengthen the Swiss franc and limit imported inflation.

Chart 1. Swiss underlying inflation and interest rates

Source: Refinitiv and EFGAM calculations, data as of 22 June 2023.

The tightening bias reflects the SNB’s concern that inflation will not moderate fast enough. This is best seen in the upward revision of the SNB’s conditional inflation forecast for 2024 and beyond despite lower expected inflation in 2023. The end point of the projection remained at 2.1%, above the 0-2% target range.

Interestingly, the SNB linked the upward revision of inflation to “second round effects, higher electricity prices and rents”, and higher inflation abroad. However, the rise of electricity prices announced for January 2024 are not due to increased demand, meaning monetary policy will have no impact on them, and they will eventually be a drag on GDP growth.

Furthermore, rents, that represent about a fifth of the Swiss CPI basket, will rise because of the indexation to mortgage rates, which have risen following the SNB’s policy tightening. The rent indexation mechanism risks creating a vicious circle where the SNB increases rates to lower inflation, but inflation remains high, if not higher, due to rising rents. To limit such risk, it would make sense for the SNB to also monitor price developments net of rents as currently done by the Riksbank in Sweden, where rents are also indexed to interest rates.

Finally, many indicators, including producer price inflation, already point to a return of inflation to levels consistent with the SNB definition of price stability (see Chart 2).

Chart 2. Inflation in Switzerland (YoY)

Source: Refinitiv and EFGAM calculations, data as of 22 June 2023.

To conclude, it is legitimate to ask if, under these circumstances, higher interest rates are appropriate to tame inflation and if they do not risk being too much of a burden for the economy. In its comments, the SNB highlighted the prevalence of downside risks to growth and tighter financing conditions will raise the chances these risks materialise.

*Producer Price Index (PPI), Consumer Price Index (CPI) and CPI Core which excludes energy and food prices.