SNB May Leave Benchmark Rate at 7-Year High to Fight Inflation

By Joshua Gallu

Sept. 18 (Bloomberg) -- The Swiss central bank will probably leave its main lending rate at a seven-year high today to ensure inflation will slow below its 2 percent limit.

The Swiss National Bank's Governing Board, led by Jean-Pierre Roth, will keep the three-month Libor target at 2.75 percent for a fifth quarter, all 19 economists surveyed by Bloomberg said.

``Monetary policy in Switzerland is at a crossroad,'' said Guillaume Menuet, a senior European economist at Merrill Lynch International in London. ``There are obvious downside risks to the economy as we've seen in recent data, but it would be premature to ease monetary policy given the inflation outlook.''

Financial-market fallout from the U.S. housing crisis has hammered banks' profits and is a drag on economic growth. The SNB joined central banks around the globe this week to provide extra money to calm markets spooked by the collapse of Lehman Brothers Holdings Inc. At the same time, the 36 percent drop in the price of oil since mid-July may give the SNB room to lower borrowing costs this year without sparking inflation.

The SNB has left its target interest rate unchanged since September 2007 after record defaults on U.S. home mortgages led to losses at the country's two biggest banks, UBS AG and Credit Suisse Group. The Swiss financial industry accounts for about 15 percent of the economy and contributed about 50 percent to growth in recent years.

The SNB will announce its rate decision at 2 p.m. in Zurich.

Financial Turmoil

Global stocks plummeted and bonds surged this week as traders sought the safest investments after Lehman Brothers went bankrupt, Merrill Lynch was bought and American International Group Inc. was rescued by the Federal Reserve. UBS, the European bank hardest hit by the U.S. mortgage crisis, has already booked more than $43 billion in writedowns and had to raise almost $28 billion in fresh capital from investors.

With financial markets rattled and exports slowing, two of Switzerland's main economic engines are stalling. Export growth may slow to about 3 percent this year from about 10 percent in each of the two previous years, the government said in June.

``The SNB shouldn't ignore weak growth,'' said Jan Amrit Poser, chief economist at Bank Sarasin in Zurich. ``We need a rate cut as a cushion against this downturn. The SNB will either cut by the end of the year or not at all, because March may be the bottom of the cycle.''

Better Than Others

The economy is still ``in line'' with the SNB's forecast for expansion between 1.5 percent and 2 percent this year, Roth said on Sept. 5. While the economy will weaken further, Switzerland's won't suffer as much as other countries, he said. The Swiss economy grew 0.4 percent in the second quarter even as the economies of neighboring France and Germany shrank.

``Europe is currently closer to recession than Switzerland is,'' Poser said. ``But if you look at the pace at which leading indicators are deteriorating, they're getting increasingly close to recession territory.''

Switzerland's leading economic indicators fell to the lowest level in five years in August and a measure of manufacturing growth slid to a three-year low. At the same time, price increases have eroded households' purchasing power and threaten consumption, the largest part of the economy.

Record prices for oil and food have triggered a surge in inflation worldwide, prompting central banks from Asia to North America to shelve plans to cut rates.

Roth said Aug. 26 in an interview with Finanz und Wirtschaft that he ``hopes'' inflation peaked this summer and that it would be ``absurd'' to use monetary policy to counter rising costs for oil and food. Inflation eased to 2.9 percent in August from 3.1 percent in July, the fastest pace in 15 years.

While the European Central Bank raised its rate in July on concern excessive pay demands may entrench faster inflation, Switzerland faces limited risks of so-called second-round effects as the Swiss economy is ``flexible'' and wage negotiations are decentralized, Roth said.

To contact the reporter on this story: Joshua Gallu in Geneva at jgallu@bloomberg.net