By Frances Coppola
The Swiss economy, meanwhile, is dependent on external trade, and is particularly sensitive to exchange rate changes in relation to the euro and U.S. dollar. This is important because the Eurozone (particularly Germany) is by far Switzerland's largest trade partner but the U.S. is its second-largest. In 2016, U.S. exports to Switzerland totaled $22.7 billion, while imports totaled $37 billion. The U.S. is one of the top destinations for Swiss investment and is one of the largest foreign investors in Switzerland. Thus, the fortunes of the Swiss economy can be significant for U.S. import-export businesses.
Those fortunes tend to depend upon the Swiss franc's foreign currency exchange rate. A rising foreign currency exchange rate makes Swiss exports less competitive and drives up producer costs, while a falling exchange rate makes its exports more competitive and reduces producer costs. Thus, the franc's "safe haven" role directly affects the performance of the Swiss economy and its import-export trade with the U.S. and Eurozone.
The last decade has seen a sustained global downturn caused by successive crises – the financial crisis of 2007-8, the sovereign debt crisis of 2009-14 and the commodities price collapse of 2014-15. Global GDP growth has been significantly below its pre-crisis average. Switzerland's two largest trade partners, the U.S. and the Eurozone, were badly affected by, respectively, the financial crisis and the sovereign debt crisis, and their economies have taken a long time to recover. The prolonged Eurozone slump, in particular, has significantly affected the Swiss franc's foreign currency exchange rate and hence the Swiss economy.
Switzerland's real effective exchange rate (REER) started to rise in the fall of 2007,1 now widely recognized as the early days of the financial crisis.2 By the end of August 2011, as the sovereign debt crisis that had started in Greece spread out across the Eurozone,3 the Swiss franc's foreign currency exchange rate had appreciated by 30 percent.4 The Swiss franc's appreciation was a boon for importers, but it caused the prices of Swiss exports to fall and producer costs to rise.5
As Switzerland's terms of trade (the ratio of export prices to import prices) worsened, threatening to trigger a recession in its export-led economy, the central bank (the Swiss National Bank, SNB) imposed a floor on the franc's exchange rate at 1.2 francs to the euro.6 This stopped the franc appreciating, but it was costly for the SNB. Over the next three years, to maintain the foreign currency exchange rate floor, the SNB bought $90 billion of financial assets, exchanging them for newly issued Swiss francs. As a percentage of Switzerland's economy, it was the largest quantitative easing (QE) program in the world.7
In July 2014, the European Central Bank (ECB) slashed its lending rate to 0.15 percent and its deposit rate to minus 0.1 percent. Further rate cuts followed in September 2014.8 And in January 2015, the ECB effectively announced the imminent start of QE.9 Faced with the prospect of very large capital inflows when the ECB's QE commenced, which would make the foreign currency exchange rate floor extremely difficult to maintain, the Swiss central bank abruptly changed its policy. On January 15, 2015, the SNB ended the exchange rate floor and slashed interest rates on deposits to minus 75 percent.10
Economic theory says that investors will sell the currencies of countries with lower interest rates and buy the currencies of countries with higher interest rates. So, a deep rate cut should have prevented the Swiss franc appreciating versus the euro when the foreign currency exchange rate floor was lifted. But because of the franc's "safe haven" status, risk-averse investors, worried about the Eurozone's poor economic performance and the imminent start of the ECB's QE, sold the euro and bought the franc. Instead of falling, the franc's exchange rate soared.11
The SNB's decision did not significantly affect Switzerland's import-export trade. But it did benefit export businesses in the Eurozone. According to John Authers of the Financial Times, the franc's exchange rate floor had been keeping the euro strong against the currencies of all the Eurozone's trading partners. Removing the foreign currency exchange rate floor allowed the euro's trade-weighted exchange rate to fall to a more competitive level, thus helping to generate an export-led recovery.12
Despite the SNB maintaining deeply negative interest rates, and warning that the franc was overvalued,13 the franc's foreign currency exchange rate remained strong until February 2017. Then the Eurozone's recovery encouraged investors to sell the franc and buy the euro. The franc's exchange rate versus the euro started to fall in March 2017,14 followed by the REER in mid-2017.15 Once the ECB started dropping hints that QE could end in 2018, the franc's fall accelerated. In April 2018, the foreign currency exchange rate passed 1.20 to the euro, the floor set by the SNB back in 2011. Some analysts think it will weaken further.16
This raises questions about the SNB's interest rate policy. The purpose of the negative rate was to discourage investors from buying assets denominated in Swiss francs, and thus put downwards pressure on the franc's exchange rate. But now that the foreign currency exchange rate has fallen below its 2011-2014 floor, some analysts are predicting that the SNB may soon start to consider raising interest rates.17
However, the strong franc has taken a considerable toll on the Swiss economy. GDP growth fell from 2.8 percent in the fourth quarter of 2014 to 0.59 percent in the first quarter of 2017,18 while inflation was stubbornly below zero from the end of 2014 through 2017.19 Now that the franc is weakening, GDP growth has improved to nearly 2 percent,20 and inflation has risen to just above zero.21 But raising rates earlier than the ECB might strengthen the franc's foreign currency exchange rate again, which could reverse these gains. The SNB has signaled that it is likely to wait for the ECB to start unwinding QE and raising interest rates before it tightens monetary policy.22
In recent years, the Swiss franc's "safe haven" role has caused its foreign currency exchange rate to rise too high for the Swiss economy, depressing economic growth and inflation. However, as economic growth returns in Switzerland's main trading partners and the franc weakens, the Swiss economy is beginning to recover, raising the prospect of new trading opportunities for import-export businesses.
With 17 years’ experience in the financial industry, Frances is a highly regarded writer and speaker on banking, finance and economics. She writes regularly for the Financial Times, Forbes and a range of financial industry publications. Her writing has featured in The Economist, the New York Times and the Wall Street Journal. She is a frequent commentator on TV, radio and online news media including the BBC and RT TV.
1. “Switzerland real broad effective exchange rate,” FRED Economic Data; https://fred.stlouisfed.org/series/RBCHBIS
2. “Global financial crisis: five key stages 2007-2011,” The Guardian; https://www.theguardian.com/business/2011/aug/07/global-financial-crisis-key-stages
3. “Timeline: The Unfolding Eurozone Crisis,” BBC News; http://www.bbc.co.uk/news/business-13856580
4. “Exchange Rates and the Swiss Economy,” VoxEU; https://voxeu.org/article/exchange-rates-and-swiss-economy
6. “SNB stuns markets with franc action,” Financial Times; https://www.ft.com/content/f5a361ce-d862-11e0-8f0a-00144feabdc0
7. “The Swiss central bank’s $90 billion stocks portfolio is insane,” Quartz; https://qz.com/1140322/check-out-the-swiss-central-banks-insane-90-billion-investment-portfolio/
8. “Official interest rates,” European Central Bank; https://www.ecb.europa.eu/stats/policy_and_exchange_rates/key_ecb_interest_rates/html/index.en.html
9. “Oh, Switzerland, what have you done?” Forbes; https://www.forbes.com/sites/francescoppola/2015/01/17/oh-switzerland-what-have-you-done/#2406a6655e31
10. “Swiss National Bank discontinues minimum exchange rate and lowers interest rate to -0.75 percent,” Swiss National Bank; https://www.snb.ch/en/mmr/reference/pre_20150115/source/pre_20150115.en.pdf
11. “CHF-EUR X-RATE,” Bloomberg; https://www.bloomberg.com/quote/CHFEUR:CUR
12. “Lessons from Switzerland doffing its cap,” Financial Times; https://www.ft.com/content/780ff488-9cd2-11e4-971b-00144feabdc0?siteedition=uk#axzz3OwWfVpxY
13. “Swiss franc remains overvalued, says SNB,” Financial Times; https://www.ft.com/content/7fff4f76-5d35-11e5-9846-de406ccb37f2
14. “CHF-EUR X-RATE,” Bloomberg; ; https://www.bloomberg.com/quote/CHFEUR:CUR
15. “Switzerland real broad effective exchange rate,” FRED Economic Data; https://fred.stlouisfed.org/series/RBCHBIS
16. “Swiss Franc: CHF/EUR Above 1.20 Level Eyed By Analysts,” Pound Sterling Live; https://www.poundsterlinglive.com/chf/8931-swiss-franc-being-tipped-to-weaken-further
17. “The Swiss Franc Is Almost Back To Its Famous Limit,” Bloomberg; https://www.bloomberg.com/news/articles/2018-04-17/snb-rewinds-currency-clock-as-franc-approaches-old-line-in-sand
18. “Real Gross Domestic Product for Switzerland,” FRED Economic Data; https://fred.stlouisfed.org/series/CLVMNACSAB1GQCH#0
19. “Historic CPI inflation Switzerland,” World Bank; http://www.inflation.eu/inflation-rates/switzerland/historic-inflation/cpi-inflation-switzerland.aspx
20. “Real Gross Domestic Product for Switzerland,” FRED Economic Data; https://fred.stlouisfed.org/series/CLVMNACSAB1GQCH#0
21. “Historic CPI inflation Switzerland,” World Bank; http://www.inflation.eu/inflation-rates/switzerland/historic-inflation/cpi-inflation-switzerland.aspx
22. “Traders sell Swiss franc and ignore usual haven appeal,” Financial Times; https://www.ft.com/content/cef6234e-4189-11e8-93cf-67ac3a6482fd