Tags: swiss | currency | markets | investing

Swiss Breaking Currency Peg Is Bound to End Badly

Friday, 16 January 2015 04:47 PM Current | Bio | Archive

The Swiss National Bank (SNB) has given the financial markets an extremely rare and certainly unwelcome surprise by deciding to discontinue the minimum exchange rate (peg) of 1.20 Swiss francs per euro to cease the SNB’s foreign currency purchases associated with enforcing it.

The SNB also stated: “…Recently, divergences between the monetary policies of the major currency areas have increased significantly — a trend that is likely to become even more pronounced. The euro has depreciated substantially against the US dollar and this, in turn, has caused the Swiss franc to weaken against the US dollar. In these circumstances, the SNB has concluded that enforcing and maintaining the minimum exchange rate for the Swiss franc against the euro is no longer justified…”

That reasoning of the SNB was, in my opinion, not of such a kind to be extremely surprising especially when we take into account the Swiss Central Bank already decided in mid-December to apply a negative interest rate of -0.25 percent on sight deposit account balances at the SNB and expand the target range for three-month LIBOR to a -0.75 percent /+0.25 percent range hoping by applying that to curtail inflows of foreign currencies and that action hadn’t delivered satisfying results, on the contrary.

What really came as a disturbing surprise was the fact that only on Monday, Mr. Jean-Pierre Danthine, who is vice-president of the Swiss National Bank said on the Swiss French language public broadcaster RTS (Radio télévision Suisse) in no-mis-understandable French: “…we’re convinced that the cap on the franc (1.20 Swiss francs per euro) must remain the pillar of our monetary policy…”

So, the SNB blew up what they unequivocally designated as the pillar of their own monetary policy.

It’s also interesting to take notice that even Christine Lagarde, the Managing Director of the International Monetary Fund (IMF), said during an interview she hadn’t be informed by the SNB, which is an important central bank from a global perspective, beforehand about the important change in its monetary policy.

I’m sorry, but once a vice president of such an important central bank starts lying we are in dire straits.

No doubt about it, this will affect the credibility of several important central banks in the world and unfortunately well beyond the Swiss National Bank.

I don’t want to extrapolate here about the consequences the SNB’s action could probably have caused to its own credibility, and believe me the nasty fallout is on its way, but I’d like to zoom in on a rhetorical question: “After what the SNB has accomplished in the negative sense, should investors really take Central Bankers on their word?

We’ll see if Mr. Draghi will next week finally confirm his boatload of comforting words by deeds.

As always, I’d prefer to remain prudent for not saying I’d prefer to stick with “Seeing is believing.”

That said, we all know that all members at the ECB’s Governing Council are not talking the same language about QE and just Thursday German Central Bank President and ECB Governing Council member Jens Weidmann said: “The advocate general of the European Court of Justice has made it clear that there can be no doubt about the legal limits on the ECB, which means that, alongside the ban on monetary financing, that the central bank may not conduct economic policy.

Mr. Weidmann also said that his position on QE has not changed.

For all investors, maybe it could be not such a bad idea for not expecting too much about the so much “over-hyped” enormous quantitative easing (QE) actions that should be decided at next week’s ECB’s Governing Council meeting in Frankfurt, Germany.

Yes, it's a fact the Eurozone is facing a continuously low-inflation environment and Eurostat just confirmed a negative yearly CPI of -0.2 percent for the Eurozone.

At the same time to investors, it could also be helpful not to overlook the fact the ECB has been most of the time “behind the curve.”

Yes, I still remain skeptical about the so-called massive QE the ECB has promised. Please take care, if the ECB doesn’t announce next week its formal intention of buying something like a massive 2 trillion euros of government bonds, the whole fuss about their so much talked about QE doesn’t make a chance to create real help for substantially reviving the EZ economy and rising EZ’s inflation to close to 2 percent, as is defined in the ECB mandate.

I personally don’t expect the ECB to announce something substantially above buying 500 billion euros of government bonds, which of course would seriously disappoint the markets.

If such a ECB half-measure would be the case, which is of course not a sure thing, investors shouldn’t be surprised the ECB could in the end catastrophically fail to prevent deflation in the Eurozone, which would be in itself an enormous global systemic risk that comes to fulfillment and that seemingly worries today much more the Federal Reserve than it apparently preoccupies Eurozone citizens themselves.

I’d want to add here that if, and that’s still a big if, next week the ECB falls short of expectations volatility should spike and we shouldn’t be surprised when we’d see a rebound of the euro (This doesn’t change my convection the euro is bound for parity with the dollar in the not so far future), which should cause serious losses to all those who have been using the euro recently as a funding currency as now is the case with FX traders who have been burned extremely badly (already we’re seeing defaults of some FX traders) by the sudden huge rise of the Swiss franc against all main currencies in the world.

I’d like to add here the spectacular rise of the Swiss franc serves also to underline vulnerability of emerging market borrowers who have raised funds in low yielding hard currencies like the Swiss franc, the euro, but also the dollar and to a much lesser extent some others.

It’s only anecdotal, but nevertheless it’s noteworthy, data show about 65,000 Greeks have Swiss franc denominated mortgages.

Remember, nothing goes up or down in a straight line and never forget to try to look “beyond” the lines. Believe me, that’s extremely difficult to do.

Yes, the abnormal times we are in now, are bound to end badly, I have no doubt about that, but that’s strictly my personal opinion and I really hope I’m wrong.

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Yes, the abnormal times we are in now, are bound to end badly, I have no doubt about that, but that’s strictly my personal opinion and I really hope I’m wrong.
swiss, currency, markets, investing
Friday, 16 January 2015 04:47 PM
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