The Swiss National Bank announced today that the Swiss Franc will not be allowed to trade stronger than CHF1.20 per EUR (see chart attached). This is an interesting, bold, expensive and exceptional move. From their perspective, the current massive overvaluation of the Swiss franc poses an acute threat to the Swiss economy and carries the risk of deflation. This threat out-weighs the cost of intervention.
The Bank announced that they are “aiming for a substantial and sustained weakening of the Swiss franc”. And so with immediate effect the Bank will no longer tolerate a EUR/CHF exchange rate below the minimum rate of CHF 1.20. The bank indicated that they will enforce this minimum rate with the “utmost determination” and are prepared to buy foreign currency in unlimited quantities. This sounds like the Bank plans to intervene directly in the currency market.
This type of intervention has a cost, but given how much Swiss exports have suffered, the Bank probably feels it is worth the cost. As far as the Bank is concerned “even at a rate of CHF 1.20 per euro, the Swiss franc is still high and should continue to weaken over time”. If the economic outlook and deflationary risks get worse the Bank has said that they will take further measures.
Since the end of 2007 the Swiss Franc has strengthened by an amazing 48.9%; not that it was that weak to start with. In fact, it could be argued that the CHF was at fair value or even slightly overvalued in 2007. The strength of the Swiss Franc largely reflects a combination of the global search for ‘safe-haven’ assets as well as the strong economic fundamentals in Switzerland. Unfortunately, even at CHF1.20, the currency will still hurt their economy, especially exports. The average value of the CHF over the period 2000 to 2008 was CHF1.55 per EUR.
It will be interesting to see if gold benefits from this move. By effectively limiting the appreciation of one of the world’s safe-haven assets, investors may increase their focus on the remaining safe-haven options, including gold. Also, it will be interesting to see if any other countries adopt a similar approach, especially in a world where all countries are trying to weaken their currency. Questions will undoubtedly be ask about the SA Rand – but the circumstances here are significantly different.
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