In July this year, inflation reached 3.1%, a level not seen for 15 years. This was a matter for concern, as there was a risk that such a level would alter households’ inflation expectations, potentially leading to a sharp rise in nominal wages at year-end and resulting in a certain stickiness of inflation. However, these two elements behind the recent rise in inflation have since reversed. First, oil prices collapsed, falling below the USD 50 mark in mid-November after peaking at USD 145 in early July. The plummeting oil price can be explained both by a drop in global demand as a result of the economic slowdown we have just described, and by the unwinding of speculative positions. Second, the Swiss economy will soon be operating below potential, and we will see a renewed rise in unemployment. This situation will have a moderating effect on both price and wage-setting behaviour. BIS Review 157/2008  3  Thus, we are now forecasting – as the graph presentation will show in just a moment – that inflation will decline almost continuously throughout 2009. Despite the interest rate cuts made since October and the cut announced today, inflation will remain low in 2010 and 2011. As of now, and for the current forecast horizon, upside and downside inflation risks have become symmetrical. Monetary policy decision We have just explained the rationale behind our recent monetary policy: first, the global economic situation has worsened, which will hit the Swiss economy as from this quarter, and in particular next year.
By contrast, the inflation outlook has improved appreciably. This has increased the SNB’s room for manoeuvre. Finally, there is a risk that the financial crisis will cause a deterioration in financing conditions for the economy as a whole. These are the considerations that have prompted today’s decision to cut the three-month Libor target range by another 50 basis points. Given the expected deterioration in the Swiss economy and the imponderables linked to the long and variable monetary policy transmission lags, a further rate cut appears appropriate. With this action we are reducing, to the extent possible, the risk of an even more pronounced economic downturn. Inflation forecast chart How has our inflation forecast been revised? The dashed red curve on the chart represents the new forecast. It covers the period from the fourth quarter of 2008 to the third quarter of 2011, and maps the future development of inflation on the assumption that the three-month Libor remains unchanged at 0.5% over the forecasting period. For purposes of comparison, the dash-dotted green curve shows the inflation forecast of the September monetary assessment, based on a three-month Libor of 2.75%. The new forecast shows a rapid fall in inflation over the next few quarters. It drops back below the 2% mark as from the fourth quarter of this year.