Interest rates and exchanges rates: topics of Swiss monetary policy

Niklaus Blattner, Member of the Governing Board

Opening Symposium, Finanz-Institut Thurgau FITg, Euregio-Institut für monetäre Ökonomik und Finanzmanagement at the University of Konstanz, Kreuzlingen, 31 March 2003, 31.03.2003

The strength of the Swiss franc requires vigilance. The Swiss National Bank (SNB) is taking an active role in dealing with the associated risks for the economy and is performing its mandate proactively. This includes having to deal with advice on monetary policy – something that it is often confronted with. What would be gained if Switzerland were to peg the franc to the euro? There would be minor advantages, but major disadvantages. Although this would mean a fixed nominal exchange rate, making real exchange rates less volatile, no exporter could sit back and be happy with what has been achieved. Competitiveness can only be maintained by innovation and efficiency. Furthermore, Switzerland would have to forego an independent monetary policy. The SNB would no longer be in a position to set interest rates that are appropriate to our country's economic and inflation prospects. Furthermore, pegging the Swiss franc to the euro would be an entirely unilateral act by Switzerland and not entitle it to any participatory rights in the European Central Bank (ECB). Finally, with the Swiss franc and the euro moving in tandem, the interest rate bonus would be a thing of the past. An adjustment to the level of euro interest rates, which are currently about two percentage points higher, would have serious consequences.

The SNB uses short-term interest rates to regulate liquidity so as to avoid both inflation and deflation in the medium term. The fact that it gears its policies to price stability does not mean that production and employment trends are neglected. The National Bank is aware that if it were to set the interest rate too high, this would result in a recession and create the risk of deflation. If, on the other hand, it set the interest rate too low, flooding the economy with liquidity, Switzerland's economy would be in danger of overheating and inflation.

The SNB cannot afford to fine tune its monetary policy according to production and employment targets. While monetary policy is a suitable instrument for maintaining price stability, it is of little use when it comes to reaching employment and growth targets. It nevertheless makes an indispensable contribution to the general operating environment. Price stability, i.e. the absence of inflation and deflation, is an important precondition for full employment and growth. It also contributes to an equitable distribution of wealth. Even the best monetary policy is doomed to failure in the face of sluggish growth (spawned by low productivity, itself due, for example, to a lack of competition), a breakdown of the labour market (resulting in unemployment), and a lacklustre global economy (due to sagging demand).

At present, short-term interest rates are barely above zero. Has the National Bank exhausted all of its monetary options? Not at all! The effects of monetary policy are not only exerted through a single short-term interest rate. There is also the option of buying foreign currency. In so doing, the National Bank can attempt to weaken the exchange rate even though the short-term interest rate is already at zero. By foreign exchange market intervention and – in a crisis situation – by means of open market operations on the securities markets, it can still inject the Swiss economy with liquidity as circumstances require.