It is not possible to have an open capital account, a fixed exchange rate and an independent monetary policy – dubbed the “impossible trinity”.
“In the case of Switzerland, it has an open capital account and the SNB has chosen to fix the exchange rate, at least on the upside, meaning that the central bank cannot pursue an independent monetary policy,” says Harvinder Kalirai, chief strategist at BCA.
He notes that as the SNB conducts potentially unlimited and unsterilized intervention to prevent EURCHF from breaking SFr1.20, monetary conditions in Switzerland have become hyper-stimulative.
Swiss fundamentals pick up amid loose monetary conditions
Source: BCA Research
“The effects are becoming increasingly apparent in the economy: a housing bubble is in the making, the KOF leading indicator is pointing to stronger GDP growth and deflationary pressures are easing,” says Kalirai.
“Should these trends persist, there will come a time when the SNB will need to take back control of monetary policy and it will then have no choice but to abandon its currency target.”
Kalirai also notes that the SNB’s FX reserves, which total SFr424 billion or a “staggering” 72% of Swiss GDP, are getting too large to manage effectively.
“We expect that the SNB will continue to hold EURCHF at SFr1.20 for the next several months,” he says.
“However, economic fundamentals suggest EURCHF will break below the floor over the longer term.”