Switzerland Is Now Flirting With Deflation, Causing a Dilemma for Its Central Bank

Switzerland was an outlier among major economies in the double-digit inflation spiral of recent years, with prices rises in the small European nation topping out at a 29-year-high of 3.5% in August 2022. In March, with inflation at 1.2%, the SNB become the first major Western central bank to cut interest rates.

Inflation declined further in September, recording an annual rise of 0.8%, compared to 1.1% in August.

Capital Economics said in a note last week that it now sees inflation in Switzerland falling to 0.3% in 2025, down from its previous estimate of 0.8%, due to the strength of the franc and lower oil and housing costs. That figure could turn negative in certain months, Prettejohn noted Monday.

“Our forecast is for inflation to fall as low as 0.1% in some months, so it would not take much to push that below zero,” he said, describing deflation as a “real possibility.”

Risks to the safe haven currency

SNB’s Jordan signalled to CNBC last month that currency intervention could be used alongside interest rates “if necessary” to get a handle on prices, but did not commit to a timeline.

The bank is currently seen holding rates steady at its next meeting in December, before cutting by 25 basis points to take the terminal rate to 0.75% in the first quarter of 2025, according to a Reuters poll of economists.

Maxime Botteron, economist and chief investment officer at UBS Global Wealth Management, said it may be at that point that the bank turns to currency intervention.

“Once the policy rate tool is exhausted, then you will typically see the SNB intervening in the FX market if more easing is needed,” Botteron told CNBC’s “Squawk Box Europe” last month.

“FX intervention may become a more appropriate policy tool as the SNB’s policy rate nears its effective lower bound, in our view,” BNP Paribas added in a note last month.

Still, Botteron said that the appreciation of the Swiss franc was in itself not yet a cause for concern, with the safe-haven currency’s pace of appreciation still trending well below the peaks of 2011 and 2015.

“We are not in an environment where we should we worried about [the] overvaluation of the Swiss franc,” Botteron said.

“We see some downside risk to inflation next year,” he continued. “But as long as we don’t have a very sharp appreciation, I think that the risk of deflation that would warrant a far more aggressive easing of monetary policy ... is quite unlikely at this stage,” he added.

The SNB will meet on Dec. 12 to provide its latest monetary policy decision.