Tag Archives: Exchange rate floor

The SNB’s Currency Interventions

On the FT’s Alphaville blog, Matthew Klein reviews Swiss monetary policy over the last years and its effect on the real economy. He concludes that

it seems the SNB’s relentless accumulation of foreign assets has been pointless — at best. More likely, the behaviour qualifies as predatory mercantilism at the expense of the rest of the world, especially Switzerland’s hard-hit neighbours.

How Derivatives Markets Responded to the De-Pegging of the Swiss Franc

In a Bank of England Financial Stability Paper, Olga Cielinska, Andreas Joseph, Ujwal Shreyas, John Tanner and Michalis Vasios analyze transactions on the Swiss Franc foreign exchange over-the-counter derivatives market around January 15, 2015, the day when the Swiss National Bank de-pegged the Swiss Franc. From the abstract:

The removal of the floor led to extreme price moves in the forwards market, similar to those observed in the spot market, while trading in the Swiss franc options market was practically halted. We find evidence that the rapid intraday price fluctuation was associated with poor underlying market liquidity conditions, in particular the limited provision of liquidity by dealer banks in the first hour after the event. Looking at longer-term effects, we observe a reduced level of liquidity, associated with an increased level of market fragmentation, higher market volatility and an increase in the degree of collateralisation in the weeks following the event.

“Dirk Niepelt über die Folgen eines Brexit für die Schweiz (What Brexit Means for Switzerland),” SRF, 2016

SRF, Tagesgespräch, June 16, 2016. HTML with link to MP3.

  • Half-hour-long interview on the Swiss news channel.
  • Topics include monetary policy, exchange rates, financial stability, Brexit.

“Der starke Franken (Strong Swiss Franc),” SRF, 2015

“Der starke Franken: Des einen Freud, des anderen Leid,” SRF 4 News, July 15, 2015. HTML, AUDIO.

  • Who knows whether the Franc is overvalued.
  • The SNB lost credibility in the short run (and this renders reinstating an exchange rate floor difficult), but not in the long run.
  • Some of the current problems are problems of distribution. The SNB may not be the appropriate institution to address them.
  • Switzerland wants an independent monetary policy. Here are some disadvantages.

The Euro/Swiss Franc Exchange Rate

Was it wise for the Swiss National Bank (SNB) to abandon the exchange rate floor vis-a-vis the Euro (EUR) half a year ago (see the blog entry on the decision and on the critique by Willem Buiter)?

Here are some considerations to keep in mind.

  • Is the Swiss France (CHF) overvalued? The following graph plots the nominal and real exchange rates since 1981 (the real rate is computed based on Swiss and Euro area producer price indices, 2010=100; data file).
    chf eur nom real exch rate
    Relative to the long-term average, the CHF currently is overvalued in real terms by 14%. In December 2014, it was overvalued by 4%; and in August 2011, by 11%. But in December 2007, it was undervalued by 21%. According to the real exchange rate metric, importers (households) thus suffered more in 2007 than exporters suffer today. For a related assessment based on consumer (Big Mac) prices, see this blog post.
  • The real exchange rate is just one metric to assess whether a currency is overvalued. There are many others, see for example this IMF paper or this book. Also, foreign exchange market participants are willing to buy and hold CHFs and EURs at the going market rate; they seem to think that the price is right.
  • If the price were right and policy weakened the CHF, then Switzerland would trade off “competitiveness” of the export sector on the one hand, and expected capital losses on the country’s EUR holdings that would have to be purchased to temporarily strengthen the EUR on the other. Back-of-the-envelope calculations by my colleague Harris Dellas suggest that weakening the CHF would not be worth it, financially speaking.
  • Even if, for whatever reason, society favored a weaker CHF it is not clear that the SNB should intervene. The SNB should only act if its mandate of pursuing price stability calls for such action. In the short run, a weaker CHF would indeed help to push the inflation rate in the desired range. In the longer run, however, a further lengthening of the SNB’s balance sheet (resulting from forex market interventions) could undermine the SNB’s flexibility, in particular if political constraints were to bind.
  • This does not rule out, however, that other institutions in Switzerland could or should enter the exchange rate business. In principle, fiscal policy makers could institute a sovereign wealth fund that is financed by issuing CHF bonds and invested in EUR assets. Fiscal policy makers could also try to redistribute from those currently benefiting to those suffering from the CHF/EUR exchange rate. Export subsidies could be an instrument. They would be hard to implement though if one wanted to account for intermediate inputs.
  • That Switzerland has an independent currency is a choice that reflects repeated, in depth deliberations. Advantages of pursuing an independent monetary policy include the option value to pursue price stability even if other currency blocs don’t; and the ensuing credibility benefits for Switzerland as a whole. Disadvantages include temporary, but potentially long-lasting real exchange rate misalignments that strain some groups (e.g., workers in the export sector) while benefiting others (e.g., consumers). These advantages and disadvantages do not come as a surprise; Switzerland has chosen them.