Switzerland restores sanity



Switzerland restores sanity

(V. Anantha Nageswaran)

As I was driving to my class on Thursday evening here in Singapore, I got two short messages from a broker about EURCHF dropping to 0.85 and then recovering to around parity. I was convinced that both were wrong messages or typos. I casually mentioned it to my students who confirmed that they were not mistakes but that the Swiss National Bank (SNB) had removed the cap it had set on the Swiss franc against the euro some three years ago.

As I write this, the EURCHF exchange rate is trading around parity. I was in Zurich for four days after four years in the week before the SNB pulled the plug on their policy of capping the Swiss franc against the euro. I was rather shocked to note that the central bank’s balance sheet was around 80% of gross domestic product (GDP) and that property prices in Zurich were outrageously high. It was regrettable that the guardians of the once mighty and “hard” Swiss franc did not hesitate to make it yet another paper currency—currencies whose managers routinely spawn asset bubbles and crashes.

I am glad that the SNB “heard” my lament and moved to “fix” the problem. Of all the breast-beating, hand wringing and waving that followed the move, unsurprisingly, the comment by Nobel Laureate Paul Krugman takes the cake: “So, let us learn from the Swiss. They’ve been careful; they have maintained sound money for generations. And now they are paying the price.”. Krugman does not mind leaving his readers with the impression that the Swiss have finally met with their comeuppance for having followed a “sound money” policy. Bizarre. Economists should not be surprised if their standing with the rest of the world continues to diminish.

The second prize for the most egregious reaction to the SNB-move came from Christine Lagarde, the managing director of the International Monetary Fund (IMF). She was not happy that the Swiss did not either consult or inform IMF of its decision. I do not know if SNB consulted with IMF before instituting a cap and, if not, whether the Fund minded it. In other words, we would like to know if consultation is insisted upon only if countries deviated from the Fund’s book of policy prescriptions. Actually, IMF should be grateful to SNB. By removing the cap on the Swiss franc against the euro, SNB has allowed the euro to depreciate. A weak euro may or may not help the sclerotic European economy. But, it is worth a try.

The fact that the euro fell significantly after the move is a clear sign that, all these years, SNB had prevented the euro from finding its natural floor with its intervention. Lagarde and euro zone leaders should be grateful to SNB for having given a higher chance for the world’s largest economic area to grow again. For Swiss exporters too, no amount of price discounting will help them sell their wares or ski slopes to Europeans, if they have no income. It is better to have a recovering Europe and a strong Swiss franc than a weak Swiss franc and a stagnant euro zone economy.

For investors, the SNB decision expands the choice of currencies to diversify into. Investors are tired of looking for a currency whose central bank is not actively debasing it. There are not many around, these days. One should not count the dollar in the list of sound currencies. The impending monetary normalization in the US will turn out to be all sound and fury, signifying nothing. Consensus opinion on the US economic expansion is as excessively optimistic as it is excessively sanguine about the economic slowdown in China.

The comment by one major Swiss wealth manager that it expected its clients to abandon the Swiss franc and diversify into dollars after the SNB decision was comical as it stood economic logic on its head. For the financial market types who are howling and growling that SNB sprang a surprise on them, this columnist has no words of consolation. Policy surprise is a legitimate tool in a central bank’s tool-kit. Policy transparency helped none but speculators and trading desks in financial institutions. It is a cleverly disguised (pun intended) subsidy for the financial sector. It is good that a central bank has asserted its independence, not just with respect to politicians but with respect to financial institutions and financial market participants. Arguably, the latter had been more successful than politicians in keeping central banking in chains.

Finally, for those who argue that Switzerland has been made worse off in every possible way by this decision, here is a question: how would SNB ever make good on its holding of euro-denominated, overpriced euro zone sovereign bonds if the euro zone broke up?

We have just learnt that India’s Raghuram Rajan has been voted the best central banker for the year 2014. The award for 2015 should go to Thomas Jordan of the Swiss National Bank for reminding central bankers around the world that their core obligation is to preserve sound money and not write Put options on stock markets.


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