Pick up of balance sheet analysis of central banks is one big positive from the crisis. It is a very interesting field but has been ignored till Fed intervened massively and expanded its balance sheet, followed by others.
SNB balance sheet has also expanded three times from pre-crisis levels. Philipp Hildebrand, Chairman of SNB discusses this in his speech. The balance sheet has expanded on two counts – one buying Swiss govt bonds and two buying foreign exchange.
This extraordinary development in the balance sheet is a direct consequence of monetary policy. The SNB had lowered interest rates sharply during the financial crisis, but by the spring of 2009, the traditional interest rate instrument was practically exhausted.
Consequently – with an incipient threat of deflation – the SNB adopted unconventional measures to loosen the monetary conditions further. By carrying out long-term repo transactions and foreign exchange swaps, acquiring Swiss franc bonds issued by private sector borrowers and purchasing foreign currency, the banking system was supplied with large amounts of liquidity. In the past few months, foreign exchange purchases, in particular, have been an effective instrument for averting deflationary risks. While the liquidity created by purchasing foreign exchange and Swiss franc bonds is of a permanent nature, liquidity resulting from repos and currency swaps is temporary. It flows back automatically when transactions are not renewed. This has occurred to a large extent in the meantime.
The considerable expansion in the SNB’s balance sheet is therefore primarily attributable to the increase in foreign exchange reserves. These have more than quadrupled to just over CHF 230 billion as a result of the interventions since the beginning of the financial crisis.
From today, the SNB will also be publishing information on current foreign exchange reserves on its website (www.snb.ch) at the beginning of each month. The high level of foreign exchange reserves will inevitably increase currency risk and mean that debtors are concentrated in a few major countries. These risks ultimately represent the burden the SNB has assumed in order to protect the Swiss economy from the threat of deflation, in line with its mandate.
Balance sheet risks have risen overall. The SNB is now reaping the benefits of having continuously increased its allocation to provisions in previous years. This gave it the room for manoeuvre it needed for measures in times of crisis. The higher allocation to provisions decided on recently has further strengthened the SNB’s capital base. The SNB has sufficient equity capital to withstand even large losses.
Interesting bit. As Switzerland is an open small economy, SNB had to intervene in exchange rate markets and forex reserves forms bulk of its balance sheet now. Forex reserves purchases helped prevent sharp exchange rate appreciation and possible deflation in Swiss economy. Lars Svensson had advocated exchnage rate depreciation as one way to get out of zero bound constraint and possible deflation. By intervening in forex markets, SNB preveneted appreciation. Not sure, whether any attempts were made to depreciate Swiss Franc.