JPY – Slight weakening in the wake of weak GDP data

EURUSD – economy and monetary policy in the US and the euro zone diverge

JPY – slight weakening in the wake of weak GDP data

EURCHF – voting on the gold initiative by the end of November

USD – uptrend vs. euro should continue

After the euro weakened persistently since the summer, a volatile sideways movement ensued in October. Recently the decline in the euro resumed, and even levels below USD 1.24 were reached briefly. Developments in the two currency areas argue in favor of a further weakening of the euro. While the US economy displays sound growth rates by now, which could even accelerate, growth in the euro area is fluctuating around the zero level and we only expect a moderate recovery. The economic situation is reflected in the monetary policy of the two central banks. The Fed has concluded its security purchases as of October, and the federal funds rate is highly likely to begin to rise next year. We expect the first rate hike in March of next year. By contrast, in the euro zone securities purchase programs have only just begun, and we expect them to be broadened next year to encompass additional categories of securities. The ECB plans to expand its balance sheet by approx. 50% to € 3 trillion until summer of 2016. From our perspective, short term interest rates in the euro zone are moreover going to remain at a low level until sometime in 2017. Thus we expect a further strengthening of the dollar, whereby the momentum of the advance should slow down.

JPY – decline after the Bank of Japan's announcement that its existing securities purchase program will be expanded

After a significant slump in Japan's economy in the 2nd quarter (-1.8% q/q), leading indicators are pointing to a slight improvement of the situation in the 3rd quarter. For instance, the increase in consumer confidence (average +4% vs. Q2) points to a positive growth contribution from the consumer spending component in the 3rd quarter. New orders for machinery and equipment, a good indicator for investment, are developing positively as well, and have to date risen by +4% in the 3rd quarter compared to the 2nd quarter.

In September, the inflation rate of 3% has continued to remain above the price stability target of 2%. Adjusted for the effect of the sales tax increase, the inflation rate is however only at 1.3%, which remains well below the price stability target of 2%. From the Bank of Japan's (BoJ) perspective, weak final demand (in the wake of the sales tax increase) as well as a declining oil price have put downward pressure on inflation in recent months. At the last monetary policy meeting on October 31, the committee therefore decided with a majority of 5 to 4 to accelerate the expansion of the monetary base. The annual growth rate of the monetary base is to be accelerated from JPY 60-70 trn. to JPY 80 trn. (equivalent to approx. USD 700 bn.). The BoJ plans to continue to buy mainly Japanese government bonds. However, maturities are to be extended to 7 – 10 years (an extension of 3 years).

The yen has reacted to the announcement by weakening significantly against the euro in the short term. In recent years it could be observed that there exists a relationship between the respective balance sheet totals of BoJ and ECB and the EUR/JPY exchange rate. Thus the balance sheet of the BoJ has increased significantly faster than that of the ECB in the past 1.5 years, due to the BoJ's massive securities purchases (see chart on the left hand side above). Over the same time period, the yen has weakened materially against the euro (whereby the exchange rate tends to lead, by reacting already to the mere announcement of a planned balance sheet expansion). Should BoJ and ECB implement their currently planned securities purchase programs (BoJ: JPY 80 trn. p.a., ECB: EUR 1 trn. until summer 2016) in a linear manner, this would argue for a sideways movement in the EURJPY exchange rate, with the euro exhibiting a slight trend toward softening. The current consensus expectation of analysts is for a slight decline in the exchange rate to approx.140 in 2015.

EURCHF – voting on the gold initiative by the end of November

After a short term decline against the euro in October, the Swiss franc has – partly due to the pending gold initiative referendum on November 30 – once again strengthened toward the minimum threshold. The people's initiative “Save Our Swiss Gold” demands that the assets of the SNB must consist of 20% in gold at all times, that there should be a blanket ban on gold sales and that the gold must be stored in Switzerland. Should the gold initiative be accepted, the SNB will have two years to repatriate all gold reserves to Switzerland, and five years to build up a gold reserve amounting to at least 20% of its balance sheet total. Currently the Swiss National Bank holds 1040 tons of gold (which is only 15 tons less than China and 38 tons less than Russia). This gold reserve amounts to approximately 10% of the SNB's balance sheet. Almost 70% thereof is stored in Switzerland.

The Swiss Federal Council and parliament, as well as the SNB, are opposed to the gold initiative. The Swiss Federal Assembly also recommends to the people and the cantons to turn the initiative down. The reason for this is that the SNB's monetary policy would be severely restricted by the gold initiative. The prescribed gold share and the ban on sales could lead to the SNB's assets consisting almost exclusively of gold one day. This could then hinder monetary policy in the future if relevant balance sheet reductions were not to be carried out. Since the markets would be aware of this impediment, the credibility of the SNB's monetary policy would thus be undermined as well. A further disadvantage of a very high gold share is that gold pays neither dividends nor interest, and therefore hardly any profits could be generated anymore.

The SNB has not altered its monetary policy since the last monetary policy assessment and continues to stand ready to “immediately take additional measures” to enforce the minimum exchange rate. Should the referendum at the end of November be turned down by the people and cantons, the Swiss franc could weaken and move away from the minimum exchange rate threshold. We therefore maintain our forecast for EURCHF to remain in a range of 1.20 – 1.25.