How does the SNB keep inflation on track?
The SNB must ensure stable prices. But how exactly does it do that? By ensuring that interest rates and the exchange rate are appropriate for the prevailing economic situation, and thus doing its utmost to prevent inflation.
When the SNB Governing Board announces to the media that it is adjusting its policy rate, it can be sure that the general public is paying attention. Raising or lowering the policy rate moves the exchange rate and stock exchange prices, as well as having a noticeable impact on our everyday lives.
Impact on savings accounts, pensions and mortgages
Low interest rates tend to give the economy a boost, while high rates tend to slow it down. Over time, this influences prices, and thus inflation. But whether interest rates are on the low side or on the high side is largely dependent on where the SNB sets its policy rate.
At least four times a year, the SNB assesses whether its policy rate needs to be adjusted, and informs the public accordingly. The SNB policy rate has an indirect effect on the level of the interest rates on our savings accounts and mortgage loans; ultimately, it has an effect on the economy as a whole.
Not a direct command
However, the SNB cannot simply dictate the interest rates that apply in our everyday lives and in the financial markets. Rather, it steers them by conducting transactions with the banks oriented towards the SNB policy rate. By means of these transactions, the SNB policy rate is transmitted to the banking system, and from there to the general economy.
The SNB policy rate has an effect on our everyday lives
In its operations with banks, the SNB sets the interest rate terms applicable in the transactions. It can also inject liquidity into the market or absorb it back out, i.e. by adding or withdrawing central bank money. Both measures have an effect on interest rates in the economy as a whole.
Good to know
To ensure that interest rates are appropriate for the monetary policy situation, the SNB influences SARON, the Swiss Average Rate Overnight, to keep it as close as possible to its policy rate. SARON is the most important short-term interest rate on the Swiss money market, where banks go to borrow or lend short-term money. In Switzerland, many financial products are based on SARON. When the SNB influences SARON, this therefore also has an effect on the interest rates for financial products such as personal loans and mortgages.
The exchange rate is also important
Switzerland is a small open economy that is closely integrated into the global economic system, which means that the exchange rate has a substantial influence on the Swiss economic situation. For this reason, the SNB ensures not only that interest rates are appropriate for the prevailing economic situation, but also that the exchange rate is.
The SNB policy rate also has a substantial influence on the Swiss franc. Here, the difference between interest rates abroad and those in Switzerland, and how these change in relation to one another, plays a central role. If, for example, rates decline in Switzerland while remaining unchanged elsewhere, the demand for Swiss francs drops, since other currencies have become more attractive to investors. This tends to lead to a depreciation of the Swiss franc.
If necessary, the SNB may also use monetary policy measures other than its policy rate to influence the exchange rate or the interest rate level. For instance, there are phases in which the SNB buys or sells foreign currencies in addition to setting the policy rate. By trading on the foreign exchange market, the SNB influences the Swiss franc exchange rate. If it purchases a foreign currency and pays in Swiss francs, this weakens the franc. If however it buys Swiss francs and pays for them in foreign currencies, this strengthens the franc.
The SNB does all of these things with an eye to adjusting interest rates and the exchange rate to the prevailing economic situation. It does not influence the exchange rate in order to benefit or weaken individual companies or industries in Switzerland. The SNB conducts its monetary policy in the interests of the country as a whole, rather than serving individual interest groups.
Who can conduct transactions with the SNB?
In principle, the SNB can conduct transactions with all banks in Switzerland and the Principality of Liechtenstein. Other financial sector companies such as domestic insurers, as well as foreign banks, may be admitted as counterparties in the SNB’s money market transactions, provided there is a monetary policy interest in doing so and they contribute to liquidity on the money market.
