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SNB's leeway shrinks as Swiss franc hits nearly two-year high

John Revill

ZURICH, June 3 (Reuters) - The Swiss franc surged to its highest level in nearly two years on Monday, narrowing the Swiss National Bank's policy options as investors sought the safe-haven currency amid escalating global trade tensions.

The franc reached 1.1117 versus the euro - its highest level since July 2017 - making it even more unlikely the SNB will alter its policy of negative interest rates when it gives its quarterly update on June 13.

The bank could, however, increase foreign currency purchases - the second plank of its monetary policy - which have been carried out at a relatively modest level in the last year.

"I don't think the SNB will be comfortable with the current level of the franc," said Credit Suisse economist Maxime Botteron, who foresaw possible additional intervention after modest selling of francs during 2018.

Analysts said the SNB could be getting nervous, especially over the impact of weak Swiss industrial data and sluggish inflation on its scope to move away from the negative rates and currency purchases it has used over the last four years.

The SNB declined comment about the franc's strength.

Trade tensions rose over the weekend after U.S. President Donald Trump said he would apply tariffs of 5% on Mexican goods on June 10 if Mexico did not halt the flow of illegal immigration.

The risk-averse environment has been fed by the success of the right-wing Brexit Party in Britain at recent European Parliament elections, making it more likely the UK's departure from the European Union will end without a deal, analysts said.

This development has weakened the euro as investors bailed out of the common currency and sought safety in the franc, said Peter Rosenstreich, a strategist at Swissquote Bank.

"Trump's visit to Britain has really put a sharp spike on fears about Brexit," he said.

"People are not trading the franc because of interest rate differentials. They are planning for a catastrophic event, and think a small negative interest rate of -0.75% in Switzerland is better than what could happen to the euro if there's a hard Brexit."

The Swiss economy showed signs of cooling, with the Purchasing Managers Index (PMI) falling below the 50 point level in May, the second successive month it was below the level signalling an expansion. The Swiss inflation rate was a sluggish 0.6% year on year.

"They (SNB) could revise downwards their long-term inflation forecast which would signal they are likely to keep their expansive policy in place for longer," added Botteron, who does not expect the SNB to start reversing its negative interest rate policy until at least the end of 2020.

The amount of cash banks hold with the SNB fell last week, indicating the central bank had not been active in the currency markets to weaken the franc. (Reporting by John Revill; Editing by Andrew Cawthorne)