Let Swiss Franc strengthen: SNB gives surprise!

Let Swiss Franc strengthen: SNB gives surprise!

Last Thursday (15 January 2015), the Swiss central bank – namely the Swiss National Bank (SNB) – managed to make a shock that “shook” the market.The SNB announced that it would lift the Swiss franc’s limit on the euro which was set to prevent the Swiss franc from being too strong against the euro.The Swiss franc rose sharply after the announcement of up to 41% against the euro, which was the biggest gain in history.

What is the story behind all that?

We have long known that Switzerland is a country that has a very stable track record of financial stability. Who does n’t know the reputation of banks in Switzerland?

Well, in 2011, when the euro area was gripped by an economic crisis, there were a lot of funds flowing into Switzerland, especially from the euro. Market participants at that time considered the Swiss franc as a “place of escape” that was good enough to protect their assets. As a result, the Swiss franc strengthened almost uncontrollably. Before the crisis occurred, the Swiss franc was only worth 0.7 euros around the beginning of 2010. The massive influx of funds made the Swiss franc succeed in achieving parity against the euro in mid-2011.

In general, no country feels comfortable when their currency becomes too strong. How come? The main reason is usually that it will have a bad impact on exporters; the prices of their goods become less competitive.

Switzerland itself is known as an exporter of goods that have a high value. We certainly know the quality of Swiss production hours which are known to have high quality. Not to mention the pharmaceutical sector.Therefore, the uncontrolled strengthening of the Swiss franc has the potential to endanger exporters of high-value goods.

In addition, there are also other reasons why Switzerland feels uncomfortable with the strengthening of the Swiss franc which is too great. The connection is precisely with the financial side; the entry of foreign funds that are too large has the potential to have an adverse effect on the Swiss financial system.

For the reasons mentioned above, SNB then announced that they set limits for strengthening the Swiss franc against the euro. The SNB said it would not allow the Swiss franc to rise too far, surpassing level 1.2 against the euro. For this purpose, the intervention carried out by SNB is to print money (in this case the Swiss franc) in a certain amount that is used to buy euros. This scenario runs for more than three years.

What happened later?

The SNB – suddenly without any warning or warning – yesterday decided to stop their policy to limit the strengthening of the Swiss franc against the euro. This policy was followed by the extraordinary strengthening of the Swiss franc against other currencies. Why is that?

This effect can be understood. For three years, the SNB “restrained” to let the Swiss franc strengthen against the euro. When the “brakes” are released, market participants – especially those with a lot of assets in the euro – feel they see opportunities to escape the grim prospect of the euro. Switzerland is again considered to be the most appropriate “refuge”, considering that the euro is expected to continue to weaken. As is well known, the European Central Bank (ECB) – which is the central bank for the euro area – has announced it will again run quantitative easing alias launch stimulus.

Market participants certainly do not want to linger over the fear of weakening the euro. So soon after the SNB announced to open the “tap” the strengthening of the Swiss franc, they flocked to buy the Swiss franc.The worst affected of course is the euro, because the policy has clearly opened a “portal” for the strengthening of the Swiss franc against the euro.

SNB reason

In its official statement, SNB gave an explanation of the steps taken. The crisis that has occurred since 2011 basically has passed, but the euro is still haunted by further weakness.

SNB explained that the stipulated limitation was to prevent the strengthening of the Swiss franc that was too far away and the decision was taken in the midst of financial market uncertainty. This step protects the Swiss economy from danger. With this step, excessive strengthening of the Swiss franc can be prevented.

But the difference between monetary policy in the area of ​​the world’s major currencies has sharpened. The euro has depreciated against the USD and this in turn has caused the Swiss franc to weaken against the USD. In this situation, the SNB concluded that the determination of the minimum limit for the Swiss franc against the euro could no longer be maintained.

In our view, SNB felt that it was unreasonable to continue to print money to buy euros continuously, because that actually weakened the Swiss franc against the USD.

What next?

As previously explained, no country wants its currency to be too strong, especially in a very short time. This will actually endanger the export sector. But SNB should not remain silent. Most likely the SNB will again intervene, but not against the euro but against the USD. Moreover, the largest market for Swiss luxury goods export is no longer Frankfurt or Paris, but Beijing or Shanghai, so there may be no reason to “maintain peace” with the euro.

SNB is most likely hoping for the effect of the new interest rate. Negative interest rates are expected to have an impact on the appetite of market participants to keep their funds in the form of the Swiss franc. Coupled with the possibility of the Federal Reserve – the central bank of the United States – will raise interest rates, then the possibility of a Swiss franc will again weaken will open.

SNB has really succeeded in shocking the market, but also “playing pretty” if the scenario that we have described is indeed anticipated. We wait for further developments.

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