Denmark is Not Switzerland

There is much speculation that Denmark will soon capitulate to the same forces that saw the Swiss National Bank abandon the franc cap last month.  However, Denmark continues to resist.  It has not reached the end of its rope.  

In order to help deflect some pressure, Denmark had suspended the issuance of long-term debt.  This has the effect of driving down interest rates further.  It is misleading to suggest this is a form of quantitative easing, which means increasing the size of a central bank's balance sheet.  Denmark has innovated.  This is a third tool to join rate cuts and intervention.  

Today Denmark auctioned 3-month bills.  It received DK5.9 bln (~$890 mln), the most in three months. Yet, it chose not to sell any.  The yields would have been deeply negative, which means the government would have been paid to borrow.   The existing 3-month bill is yielding around -79 bp. 

In addition to the punters, many of whom missed the SNB's move and are trying to catch a Danish break, there are some reports suggesting that domestic-based asset managers are also buying the krone as they reduce their foreign exposures.  The adjustment of positions means that if Danish officials do alter course, the wild move in the Swiss franc is unlikely to be repeated.  This is a good case for what many observers dismiss as kicking the can down the road.  It allows investors to prepare, something that was nearly impossible in the SNB's case.  

The SNB's Jordan warned recently that Swiss rates have not bottomed.  The same can be said of Denmark.  It key rate, the two-week CD rate is set at -75 bp, the same as the SNB's LIBOR target.   Another 25 bp rate cut in the coming weeks seems likely, and even that may not be the bottom.  The fact of the matter is that negative interest rates are unprecedented, and it is far from clear what the limit is at this juncture. 

As we have noted before, there is an important difference between the Swiss experience and Denmark.  The Swiss franc cap was unilateral.  Denmark is part of ERMII.  Under this regime, Denmark and the ECB have a treaty agreement to defend a 2.25% band.  Denmark is insisting on maintaining a 1% band.   One implication is that if speculators succeed in pushing the krone out of a 1% band will face the possibility of having to take on the ECB at the 2.25% limit.