The Swiss central bank came under a barrage of angry criticism last night after it plunged foreign exchange markets into chaos by unexpectedly scrapping its cap on the value of the Swiss franc.
The bank’s decision to lift the €1.20 cap immediately put a rocket under the currency, which shot up by 40 per cent against the euro. The franc also rose 30 per cent against the dollar and 15 per cent against sterling.
Keith Pilbeam, professor of international economics at City University London, said the enormous moves in the currency market will have meant vast losses for many traders and hedge funds that had expected the cap to remain in place. “We have not seen a day like this in the foreign exchange market for over 20 years, and many people have been caught completely by surprise,” he said.
Only last month the Swiss National Bank (SNB) pledged to enforce the euro cap with “the utmost determination”.
Thomas Jordan, the SNB’s chairman, defended the stunning volte face at a press conference yesterday, saying it had become clear that the cap was no longer sustainable in light of growing flows of hot money into Switzerland seeking a safe haven.
“It is better to do it [lift the cap] now than in six or 12 months when it would hurt more,” he explained.
But some hedge fund managers could barely contain their anger at the move by the Zurich-based SNB. “This is extremely violent and totally unexpected – the central bank didn’t prepare the market for it,” said Lex van Dam of Hampstead Capital. “It suddenly revives the risk of central bank policy mistakes, right when central bank action is what’s keeping equity markets going.”
“This might be the sort of action deemed acceptable in some of the world’s more exotic currencies, but not the Swiss franc,” said Alastair McCaig of IG, the spread-betting firm, which claimed it could face a £30m hit from yesterday’s currency market swings. “If the SNB thought it could make this adjustment in an orderly manner, it has failed miserably,” said Kathleen Brooks of Forex.com. The move was also greeted with dismay by Swiss industrialists, whose share prices were pummelled yesterday and who now face a struggle to export in the face of a massive loss of competitiveness. “Words fail me,” said Nick Hayek, the chief executive of Swatch, adding that the decision would create a “tsunami” for the Swiss export industry and the entire economy.
The questions over the SNB’s competence come three years after it was embroiled in controversy over an alleged insider trading scandal. The former chairman, Philipp Hildebrand, was forced to resign after it emerged that his wife had profited from a $500,000 currency transaction in 2011 – three weeks before the cap was imposed.
Analysts said the Swiss central bank was probably acting in expectation of the European Central Bank announcing its own quantitative easing programme next week, which could result in a fresh deluge of funds seeking sanctuary in Swiss assets.
The foreign exchange reserves of the Swiss central bank hit SwFr500bn (£370bn) in December, up from SwFr337bn when the cap was imposed in September 2011 and representing 80 per cent of the country’s GDP. The bank has bought up eurozone assets to hold down the value of the franc.
Some analysts suggested there was a growing risk that the cap could be accidentally broken in trading – which would be even more damaging to the central bank’s credibility than scrapping the cap. The bank ran up record losses of SwFr26.5bn in 2010 in an earlier attempt to limit the rise of the currency.
The Swiss franc ended the day up 18 per cent against the euro at €0.98. Against the dollar it finished up 16 per cent at $1.14. And against the pound the Swiss currency was 17 per cent higher at 75p.
Q&A: when the cap fits on currency markets
Q. What is a currency cap?
A. A central bank wishing to weaken its currency will use its reserves to buy up rival currencies, so increasing their value. A bank looking to strengthen its currency would do the opposite.
Q. Why did the Swiss National Bank introduce it?
A. The SNB set a minimum rate of €1.20 to the Swiss franc in September 2011 to stem a tide of international money seeking a safe haven. When fears of a potential eurozone break-up were at their height the rapid appreciation of the franc threatened deflation and a hammering for Swiss exporters.
Q. Why did they scrap it?
A. The central bank claimed the recent weakening of the franc against the dollar means there is no need for further intervention. But traders are sceptical. As the ECB prepares a programme of QE, the cap is simply no longer tenable. One said the SNB “would have been a chimpanzee taking on a gorilla”.