Adolf Ogi, the Defence Minister, said Peter Regli had been suspended at his own request as an investigation into financial fraud took on "unimaginable" dimensions.
Dino Bellasi, a former accountant in the defence ministry, was arrested last week, accused of stealing 8.6m Swiss francs (pounds 3.6m) from his employers, the largest swindle yet known in a Swiss government department.
But it was only after a newspaper report yesterday that the deputy federal prosecutor Felix Baenziger admitted that hundreds of weapons and ammunition had been seized from a site near the Swiss capital, Berne, in connection with the investigation.
None of the weapons had come from the Swiss army, Mr Baenziger said.
Mr Bellasi said that he had been acting under orders from Mr Regli, his superior, who in 1994 had ordered him to create a secret army, and had given him money to buy arms.
Mr Regli told reporters that the allegation was "absurd" and "a tissue of lies," especially since the Cold War was already over by 1994.
He said that he believed Mr Bellasi should undergo a psychiatric examination.
Mr Ogi said the investigation was looking into areas including organised crime and arms trafficking. He told reporters he still had confidence in Mr Regli, but he retained the right to suspend other members of the secret service if he felt the investigation required it.
Mr Bellasi is accused of obtaining the money over a five-year period in the form of advances to cover the costs of army exercises which never took place. The fraud came to light after Mr Bellasi continued to submit claims even after he left his job in November last year.
He was arrested as he apparently tried to leave the country last week and is being held in custody. His wife, who was arrested with him, has been released. (AP)