The Swiss Surprise; India's Unexptected Rate Cut

Seemingly out of the blue, the Swiss National Bank abandoned its cap in the Swiss franc (euro floor) and moved deeper into negative interest rates. This has seen the Swiss franc rocket higher against the euro and dollar. It sent the euro briefly below $1.1600.

The SNB lowered its 3-month LIBOR target to between -0.25% and -1.25%. The charge for sight deposits over the exemption threshold to -0.75%. Previously the LIBOR target range was -0.25% and -0.75%.

The euro collapsed from just above CHF1.20 to a little below CHF0.8520 before what looked like intervention brought it back above CHF1.05 in choppy conditions. The marked appreciation of the franc has spurred sharp losses in the Swiss stock market (near 7% at the time of this note) and European bourses are off around 1.8%. Hungary has not completed its restructuring of CHF-denominated loans, and the SNB move has punished the forint.

It appears the SNB has grown increasingly concerned about the cost of maintaining the cap on the franc. The European Court of Justice preliminary ruling yesterday removed potential barriers to a ECB's sovereign bond buying program. The SNB likely anticipated, as do many market participants, for the euro to come under more pressure going forward.

Investors and policy makers have become more accustomed to negative interest rates. The German curve is negative throughout six years. Six eurozone countries have negative interest rates throughout two-years. The SNB's cap was introduced in September 2011 as an alternative to its previous attempt to resist inflation through buying foreign bonds as a form of quantitative easing.

While the SNB's move is a shock and has wide impact, the Reserve Bank of India surprised investors by announcing a 25 bp rate cut between meetings. The central bank cut the repo and reserves repos to 8.0% and 6.75% respectively. The central bank has been fighting inflation for several years. Food and energy prices have fallen quickly, while domestic demand is weak. Many had expected the RBI to cut rates later as a partial offset to what is anticipated to be tighter fiscal policy. Indian bonds and stocks responded favorably to the surprise, and the rupee rallied.

What both these surprises have in common is that central banks are responding to the deepening of the disinflation/deflation, weak nominal growth that is partly a result of the collapse in commodity prices, especially energy, amid weak aggregate demand. The ECB is expected to announce larger asset purchase plans at one of its next two meetings.

US data has surprised negatively in recent days. Last week’s news of weak wage growth in the US and yesterday’s news of considerably weaker than expected retail sales spurred second thoughts on the consensus view that the Fed would raise rates near mid-year. The Beige Book helped temper such ideas as it showed moderate growth continues, thought the couple of Fed districts (Dallas and Minnesota) in the “oil patch” saw greater impact, of course, from the slide in oil prices. U.S. 30-Year bond yields fell to record lows, while the 10-Year bond yield fell below the mid-October lows. The Beige Book saw yields move higher. The market is still vulnerable to a low PPI reading today, and more importantly, a sharp fall with CPI headlines tomorrow.