Central Banking Around the World
Safe-Haven Currencies: The Swiss Franc Story
Why investors rush into certain currencies during crises, and how the Swiss National Bank's attempt to cap the franc ended in a dramatic shock.
During crises, investors often move money into currencies seen as safe, known as safe-haven currencies. The U.S. dollar, Japanese yen and Swiss franc are typical examples.
Why the franc is a safe haven
Switzerland has a long record of political stability, low inflation, sound public finances, a large current account surplus and a strong banking system. When global markets panic, investors buy francs.
The problem of a strong currency
Heavy buying can push a safe-haven currency up sharply. A very strong franc makes Swiss exports, such as watches, machinery and pharmaceuticals, more expensive abroad and pushes down prices at home, risking deflation.
The floor
During the eurozone debt crisis, investors poured money into francs. In September 2011, the Swiss National Bank set a minimum exchange rate, or floor, of 1.20 francs per euro, promising to buy unlimited foreign currency to prevent the franc from strengthening past that level. To defend it, the SNB bought huge amounts of euros, greatly expanding its balance sheet.
The shock
On 15 January 2015, the SNB suddenly abandoned the floor, citing the costs of defending it as the European Central Bank prepared quantitative easing. The franc jumped by around 30 percent against the euro within minutes before settling somewhat lower. Some currency brokers suffered heavy losses, and Swiss exporters faced a sudden loss of competitiveness.
The broader lesson
Defending a currency limit requires a central bank willing to buy or sell unlimited amounts. For a strong currency, a central bank can in principle print unlimited francs, but the resulting balance sheet risks and political costs can become too large.
A Swiss watchmaker sells watches in euros. If the franc strengthens 20 percent against the euro overnight, each euro of sales converts into far fewer francs, while the company's costs, mostly wages paid in francs, stay the same. Profits shrink unless it raises euro prices and risks losing customers. The 2015 shock hit many Swiss exporters this way.
A strong currency makes imports and foreign travel cheaper, but it can hurt exporters and tourism and push down domestic prices. The best exchange rate balances these effects.
- Safe-haven currencies like the Swiss franc attract money during crises.
- A very strong currency hurts exporters and can cause deflation.
- The SNB set a floor of 1.20 francs per euro in 2011 and defended it with huge purchases.
- Abandoning the floor in January 2015 caused the franc to jump around 30 percent.
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