Switzerland has many envious economic data. It has low unemployment, low inflation, low government borrowing (budget surplus in 2010). It’s total national debt is a mere 38% of GDP.It has one of the highest GDP per Capita’s in the world $42,600 (2010 est.) CIA Switzerland.
Switzerland is a landlocked country and virtually no mineral resources. It relies heavily on international trade and also migrants to fill job vacancies in manufacturing. It specialises in high-tech micro-technology products in chemicals and electronics.
This reliance on international trade means the value of the currency is very importing for determining domestic demand, growth and unemployment.
The Euro debt crisis has left many international investors looking for a ‘safe haven’ – a currency which gives a solid investment. Since the Swiss economy has avoided many of the problems in other Euro countries, it is one of the few countries which looks to be offering a safe investment. This has caused many currency traders and speculators to buy Swiss Francs. This has caused the Swiss Franc to appreciate.
But, this appreciation has created concern amongst Swiss policy makers. The Swiss Franc appreciated so much, it was encouraging Swiss people to travel across the border into neighbouring countries to do their shopping. The over valued Swiss Franc was making Swiss exports less competitive. In a period of declining global growth, this loss of competitiveness was hard to absorb. The overvalued Swiss Franc also harmed the Swiss tourist industry as it became more expensive to travel and live in Switzerland. The appreciation in the Swiss Franc was leading to lower growth and raising prospect of higher unemployment.
Swiss Franc Pegged Against Euro
Fears of declining domestic demand have encouraged the Swiss authorities to peg the value of the Swiss Franc against the Euro.
One Swiss franc should be kept below a level of 1 Franc to €0.83 – equivalent to SFr 1.20 to the euro.
- To keep the Swiss Franc undervalued, the Swiss authorities have promised to buy unlimited quantities of foreign currency. By selling Swiss Francs and buying foreign currency, the value of the Franc is kept low.
- The Central Bank has already pledged to keep interest rates at 0% as long as necessary – making it less attractive to save in Swiss banks.
Both these factors make the Swiss Franc less attractive, and should help to keep the value of the Franc lower.
However, governments have experienced mixed results in pursuing a fixed exchange rates. For example, the UK was forced out of the ERM when it tried to keep the value of the Sterling at a fixed level against the D-Mark in 1992.
Currency Wars and Competitive Devaluation
From Switzerland’s point of view, it is a rational economic policy to try and avoid an over-valuation of the exchange rate. However, this foreign exchange intervention could encourage other countries to follow similar policies of devaluing their exchange rate.
In a period of global downturn, a devaluation is an attractive option – especially when there is little room for fiscal expansion.
The problem is that if you devalue, it is always against the expense of another exchange rate. Therefore, it can encourage a form of competition to devalue your exchange rate the most.
Japan is another country which will be fearing speculators trying to buy Yen.