LONDON- Switzerland's franc has surged against the euro to its strongest in two years as markets bet on monetary easing by the European Central Bank, putting pressure on Swiss officials desperate to protect their export-heavy economy to act.

Like other European policymakers from the Czech Republic to Sweden, the Swiss National Bank has stuck to monetary policy even looser than the ECB's to keep its currency from gaining against the euro and to boost inflation. A strong franc makes Swiss exports more expensive and competing imports cheaper.

Switzerland now has the lowest negative interest rate in the developed world at minus 0.75%. It has periodically intervened in currency markets to weaken the franc after removing an artificial cap of 1.20 francs to the euro in 2015.

That has kept the exchange rate below 1.12 francs in recent months, but a ECB U-turn towards more easing has raised the pressure on policymakers to weaken the franc. 

The franc on Tuesday climbed further to 1.0983 francs per euro. On Monday it breached 1.10 for the first time since July 2017, leaving it up more than 4% from nearly 1.15 francs in April.

Consequently, sight deposits at the Swiss National Bank, the clearest indicator of central bank intervention, have surged. The central bank's balance sheet has grown to nearly 120% of gross domestic product, compared with around 80% in 2014.

Analysts say the franc has gained as traders bet on euro weakness in anticipation of more ECB easing, which could come as soon as Thursday's policy meeting. It has also gained from safe-haven flows from asset managers looking for a refuge from worries about the euro zone economy and political stability.

"Traders are increasingly testing how far we can go. They are trying to see when the SNB will step in," said Thu Lan Nguyen, currencies analyst at Commerzbank.

She said the franc's rally to 1.10, the level at which the SNB has previously intervened, showed "intervention threats are not as credible as they once were."

On Tuesday, the SNB declined to comment on how it would react to any move by the ECB to lower rates. Last month, Chairman Thomas Jordan said the central bank still had room to relax its already expansive policy further.

This could mean acting on interventions and also interest rates, Jordan said.

 

AWKWARD

But any intervention could raise the ire of U.S. President Donald Trump, who has railed against foreign countries he accuses of manipulating their currencies to gain a competitive advantage against the United States.

Although Switzerland was removed from the U.S. Treasury's list of alleged currency manipulators in May, Trump's disapproval of foreign easing means any major policy step by the SNB, such as the 2015 cap on the franc, is unlikely.

Money markets are now pricing in nearly a 50% chance of an SNB rate cut in September and a two-thirds chance of one by December from the current minus 0.75%.

"We think this would be an awkward time for the Swiss to restart large-scale currency interventions to fight franc strength," Goldman Sachs strategists said.

(Additional reporting by John Revill in Zurich and Sujata Rao in London; editing by Larry King) ((thomas.wilkes@tr.com; Reuters Messaging: thomas.wilkes.thomsonreuters.com@reuters.net))