“One frequent problem that emerges in the process of the defending of a currency is that it generates inflation via a variety of channels,” says Ray Farris, Credit Suisse’s global head of currency strategy tells EuromoneyFXNews. “That’s extremely unlikely in Switzerland for at least the next year or two, because the currency is so massively overvalued; the deflationary effect that this has had will persist for quite a long period of time.”
According to Credit Suisse’s modeling, Swiss policy rates should be negative as a result of these deflationary pressures. That’s impossible to achieve in practice, and so the best option for the SNB is to defend a designated floor on EURCHF and then sell their own currency ad infinitum, argues Farris.
Indeed, the one thing any central bank can do is sell its own currency simply by way of an accounting entry. That’s quite different from defending weakness in the currency; to do that the central bank must sell someone else’s currency, which they have to own to begin with.
Models suggest that any inflationary effect of maintaining the peg won’t become a problem until 2014, although Farris acknowledges there is some margin for error when forecasting more than one to two years in the future.
How much foreign currency reserves are the Swiss National Bank likely to accumulate? So, how much foreign currency reserves are the Swiss National Bank likely to accumulate? It’s unlikely to be in the high hundreds of billions much less trillions, says Farris. To begin with, the single greatest FX reserve accumulation in history has been China, whose balance of payments position and current account surplus is dramatically larger than Switzerland’s, who accumulated $3 trillion over a decade. “The swiss aren’t going to do $3 trillion,” says Farris.