Just when traders were about to stretch their trading muscles from the long weekend, the Swiss National Bank (SNB) shocked the markets by announcing that it would peg the franc to the euro at 1.2000.
SNB Chairman Hildebrand hollered that the central bank is ready to buy “UNLIMITED QUANTITIES” of foreign currency to keep the franc from being too overvalued. What this basically means is that the SNB is willing to do ANYTHING to keep EUR/CHF from dipping below the 1.2000 level. Talk about conviction!
For the most part, the franc’s recent appreciation stemmed from its safe-haven reputation. Its rise has been giving SNB members headaches as a ridiculously expensive franc threatens not only Switzerland‘s exports, but also its tourism industry.
You see, Swiss exports such as your favorite watches and chocolates become relatively more expensive compared to their counterparts when the Swiss franc rises. This is because those who want to buy them need more of their domestic currency in exchange for the franc.
Now the SNB is taking on the markets with its bold move. Forget cutting interest rates and expanding money supply in banks. It’s time to go all in!
By pegging the currency to the euro, Swiss authorities hope to somehow stabilize the export industry as well as the whole economy in general. But after the dust has settled following the SNB’s move, market junkies have gotten skeptical if the SNB’s strategy is such a good idea.
For one, the SNB would have to let go of some its control over monetary policy. As if taking into consideration the imbalances in domestic and global economy wasn’t enough, Swiss central bankers will now have to keep close tabs on the ECB‘s decisions too. Analysts are worried that if they don’t, the Swiss economy may not be able to react quickly in the event that the ECB starts to hike or cut interest rates.
And then there’s also the threat of inflation. Sure, the most recent annual CPI figure showed that consumer prices only rose by 0.2% in August after rising by 0.5% in July. However, we may see a repeat of what happened in late 1981 when Switzerland’s inflation skyrocketed to 7% after the SNB set a ceiling on the franc against the Deutsche mark.
On the other hand, some argue that the SNB made the right move. Switzerland could very well end up like China and see its exports surge with a cheaper currency. However, you should know that it’s not all good in the hood for China either. Recall that the country is now faced with the risks of a real estate bubble and high inflation as consequences of an undervalued currency.
It’s also noteworthy to point out that by going solo, the SNB may find the currency market an impregnable force to be reckoned with. It may only be a matter of time until talks of sovereign debt in Europe and slowing economic growth in the U.S. force investors to flock into the safety of the franc again.
With all that said, in this not-so-old man’s opinion, the SNB might have been a little TOO bold in pegging the franc to the euro. But then again that’s just me. Do you think the SNB was better off sitting on the sidelines, or do you agree with its decision?