Thoughts On The End Of The Swiss Currency Peg

What are my thoughts on the end of the Swiss currency peg?

Well, this is just another example of how difficult it is to maintain a fixed exchange rate without capital controls when markets believe the currency is either highly overvalued or, as in the case of Switzerland, highly undervalued. To maintain the peg, the Swiss National Bank has had to buy foreign assets equivalent to almost 80% of GDP, a number that would increase further if the peg would have been maintained something that would have meant that the future losses once the peg was ended. The purchases so far meant losses of about 13% of GDP (the equivalent of $2.3 trillion in the U.S.).

The macroeconomic effect of this is deflationary for Switzerland but inflationary for the rest of the world, especially the Euro area ( since it has most trade with Switzerland) since exchange rates are a zero sum game. When one currency, such as the Swiss franc, rises in value compared to other currencies, this means that other currencies falls in value by an equal amount. One country’s currency appreciation is other countries currency depreciaton. There can never be general or average currency appreciation- or depreciation.

One really funny thing about this is how Paul Krugman laments the end of the peg. This is funny because he of all people should welcome this given what he has said in other contexts. First of all he has argued for floating exchange rates, even going so far as saying that fixed exchange rates constitutes “currency manipulation” when China does it, yet when Switzerland does it, he endorses it, even though Switzerland has a bigger current account surplus relative to GDP than China. Secondly, as pointed out above, exchange rates are a zero sum game so this is inflationary for all other countries. And given the fact that Switzerland is very close to full employment with an unemployment rate of only 3.4%, it is odd that Krugman would conclude that Switzerland has a greater need for inflation than the rest of the world


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