On Bullying Friends

Bruce Krasting's picture

 

Lost in last week's Taper Talk and generally bad markets was a development that I think has some legs. The Swiss Parliament basically told the US Department of Justice to fuck off. I'm very surprised by this outcome - I would have bet against this result. There will be repercussions.

wsj

The details can be found here. The quick story is that after many years of pressure from the US DOJ, the Swiss Government was forced to offer up new legislation that would (1) end banking secrecy, (2) force the Swiss banks to open their books, (3) force the banks to pay pay fines and (4) obligate the banks to identify the names of specific employees who assisted US customers in evading taxes. Eveline Schlumph, the Finance Minister and former President, championed the proposed laws in the political debate. She fell flat. The Swiss said "no" with a 126 to 67 vote.

I believe that this outcome came as a surprise to the tough guys at the DOJ. They have been beating the Swiss Banks to death for years. The most recent example is Wegelin Bank. This 270 year old bank was forced into selling its "good' assets at a cheap price and then just shutting down what was left in a matter of weeks. That's how powerful the DOJ is.

It's 100% certain that the DOJ is going to retaliate for the "No" vote in Switzerland. It has to; there is too much at stake. The only question is which Swiss Bank comes under the DOJ rifle scope. I think the DOJ is going to come out swinging for the fence and target a big bank. Credit Suisse, Julius Baer and the Cantonal Bank come to mind.

If the DOJ indicts a Swiss bank, it can prevent it from making dollar based wire transfers. The DOJ will order all US banks to not make transfers on behalf of the targeted institution . At that point, the bank is functionally shut out of all dollar based business. No global bank can operate for long without the ability to make transfers in dollars.

This possibility has been discussed openly in Switzerland. That's why I'm surprised at the vote outcome. The Swiss parliament has taken a step that could result in a hammer blow to one of the country's important institutions.

A fallback position for a Swiss Bank that is indicted is for the Swiss Central Bank (SNB) to assume the role of the indicted bank, and make all of the necessary dollar based transfers on its behalf. The SNB's Thomas Jordan has indicated he's lukewarm to this approach. Jordan understands that if he pushes against the DOJ, the outcome will be an indictment of the SNB.

It's possible that some last minute deal will be pulled out of the hat. But any attempt by Schlumph to ram through a solution over the objections of the Swiss Lower House will create a different set of problems. I'm not sure how this ends up. There are several scenarios that lead to trouble. The US Treasury has already labeled the SNB as a currency manipulator; the peg policy of the SNB could come under more criticism if the Swiss don't play ball with he DOJ. The thought that the SNB could get hit with an indictment if it comes to the aid of an indicted Swiss bank, is a black hole of uncertainty.

 

I think that most Americans would support the move by the DOJ to go after untaxed offshore accounts. A very small group of people are evading taxes; that means that everyone else has to chip in for them. The Swiss understand this, but they do not like being bullied. Make no mistake, the DOJ is playing the bully in this story.

Assume that Canada told the USA that it had to change its immigration laws. That this had to be done ASAP, and under terms that were not at all acceptable to Americans. If the the USA did not bow-down and accept the Canadian terms, then Canada would end all oil exports to the USA and divert the crude to China.

I don't think that scenario would go over very well in America. From the Swiss perspective, the DOJ muscle is no different.

 

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