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The SNB's risky move
The Swiss National Bank released its 8/30 balance sheet the other day. Zero Hedge did a report (link). The link (PDF) to the SNB data.
The bottom line is that in August Swiss reserves rose by CHF 115b. A monthly increasing of 50% (Staggering). Domestic liquidity (sight deposits) rose an (unbelievable) 390% (CHF 49b to CHF 191B). This information covers the period when SNB bet the farm in an effort to stabilize/weaken the CHF. I’ve been looking at these results for days. Some very dramatic steps have been taken.
To provide some perspective consider where Switzerland sits on the rankings of foreign currency reserves to GDP.
This is not a list that Switzerland really wants to be on top of. There is very little reward that can be realized, there is a great deal of risk.
The increase in SNB sight deposits is somewhat analogous to the QE actions by the Federal Reserve. Both central banks have taken steps to electronically print money. The consequence is a sharp increase in the Balance Sheet of the CB. In both cases there is a huge pile of money created in the form of bank reserves (sight deposits).
In the USA the Fed has done (so far) $1.35T of QE. That comes to 9%% of GDP. The SNB, on the other hand, has done an amount equal to 25% of GDP in just one month.
I make these comparisons in an effort to demonstrate that what the SNB is doing is over the top. The steps the SNB has taken are without precedent.
So far, the actions by the SNB have been successful. The key EURCHF rate has been steadily above the 1.20 level. The folks in Zurich/Basel are touting the SNB action as a big success. It might be a bit early to celebrate.
It’s impossible to look into the future with any clarity these days. There are a myriad of possible outcomes in front of us. It’s possible that a soft landing for the global economy (and the SNB) is in our future. On the other hand, there are several scenarios where the actions by the SNB could blow up in their face. You tell me if any of these are possible outcomes:
The dollar gets much stronger vs. the Euro
I’ve been arguing for a big jump in FX volatility. It’s happening. There is a distinct possibility that the EURDLR could make a mad dash to 1.0 - 1.05. All the pieces are on the table for a significant adjustment.
One factor in favor of this outcome is that it would be a very big boost for the EU exporters/economy. With energy getting cheap, there are plenty of “deciders” that would love to see the Euro make a big retreat. It would blunt the deflation that is staring them in the face.
Should this happen, you get USDCHF at 1.15 -1.20. That's a very interesting exchange rate.
Up to now the money going into CHF has been a Euro phenomenon. The Swiss really don’t care about the dollar rate. But holders of dollars will care very much if the SNB is going to create such a lovely effort to get short the USDCHF. Consider this chart for some perspective.
At some point the CHF will become attractive to global holders of dollars. It doesn’t matter that the CHF interest rates are at zero. US rates are also zero.
Should things go in this direction the SNB would be forced to absorb a potentially huge supply of dollars. The 1.2 link to Euro would force their hand. Are there dollar holders who would line up for the opportunity to diversify reserves and investment funds into CHF at the right price? You bet there are. A half-trillion ++ would love to make a move on these terms.
In this environment reserves at the SNB would be exploding. They could easily double from current levels and exceed 200% of GDP.
Germany abandons the Euro
This may seem like a far-fetched outcome. It’s not. 75% of adults in Germany are saying “No” to more EU bailouts. The possibility that Germany “Opts out” and re-established the Deutche Mark is a very possible outcome.
In this scenario the Euro (sans Germany) would be worth (overnight) 75 cents on the dollar. This would be the nuclear winter for the SNB. Losses on devalued Euros could top CHF 100 billion.
A two-tiered Euro is established
The SNB has a policy in place where they invest excess Euro reserves in debt obligations of France and Germany. If there were to be a two tiered Euro the SNB would be the owner of the “good” Euros. But should the Swiss be beaten into submission they might end up with some of those “Bad” Euros. See following.
The “Beggar My Neighbor” factor
The SNB has taken the position that their decision to devalue the Franc by 15% was defensive. I’m waiting for the arguments to come forward that say it was a decidedly offensive move. What has happened to the Swiss Currency is not that much different than the Yen. Think what the global response would be if the BOJ engineered a 15% devaluation. Universal condemnation would be the result. Tim Geithner would hit the roof. Congress would rapidly brand Japan as a currency manipulator. So why haven’t Switzerland’s neighbor made a stink? I think it’s just a matter of time.
If we wander down the road where the SNB is forced to absorb more Euros, the issue of what they are doing with the money is going to come into question. We have a situation where China and Russia have indicated their willingness to absorb more Euro sovereign paper (non German/French). Could Switzerland continue to hold it’s nose on Spanish and Italian paper under those conditions? Possibly, but they will look awfully stupid, a very bad neighbor indeed.
To me, it’s not possible that the Swiss government will allow this to happen. When the European papers start running the story, “The Cheap Swiss” the pressure will build. In the end, the SNB will be forced to buy EU peripheral sovereign paper. That would open the door to losses on the sovereign debt due to restructuring. It also opens up the risk of the SNB receiving those “bad” Euros if a two-tiered option is the end game.
I actually don’t think any of these possibilities is all that far-fetched. I’m sure that the folks at the SNB are looking at the same things I am. I wonder if they are crapping in their pants at any of these prospects.
The SNB has a long history of bad market timing and improper policy responses. (They sold tons of gold at $350 and bought boatloads of Euros at 1.50 per Franc). I think the steps they took in August were ill timed and the actions they took were inappropriate. But now they are pregnant. This will be a very high-risk baby.
Notes:
What is the SNB is doing with all the Euros they acquired in August?? I suspect they may have diversified a portion of that into Sterling and Yen. Those crosses have been heavy on the offer for the past month.
Should we get confirmation of this in a few months there will be hell to pay. The BOJ and BOE will be pissed that Switzerland is passing the trash back in their direction. It's at about that time that the first “Cheap Swiss” article will appear.
****
There is an alternative that is available to the SNB. They could sterilize all of the unwanted reserves (And all the problems they create) by converting those lousy reserves into gold. I guaranty you that this option is under consideration. It’s the only choice that makes sense.
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Have a cup of tea,Bruce?
You are getting too wild-----maybe another barbacue with the neighbors will help---you need to make contact again.
Seriously, I read everything you write here because I like your way of being and agree mostly. Besides, You are a funny guy a lot of the time and also----mostly correct.
I was getting a little frustrated with your line on this because I have given it a lot of thought also, But then the last paragraph made me laugh; all of the rest was a 'long way round' just to make the real point; the swiss have not shot themselves in the foot, but merely limited the possibilities of exit to one.
Thanks for the piece---my mind is at ease once more om
Tks. I don't think Hildebrand is going to convert reserves to gold.
If this ends badly Hildebrand will be gone. A new team will take over. That new leadership might consider gold.
After all, the reason they would be there is that the old ways of doing things failed.
ZKBGF - Is it safe?
I think the SNB buys most of the foreign currency via swaps, meaning they will get their newly printed Swiss Francs back sometime and can then neutralise the liquidity they are pumping into the system now.
the consequences of these outcomes might push the european banking system further to the edge (?), after all, they imply a dislocation in the Euro and the Dollar. For a while now we've been hearing how deletorious that edge may be 'for everyone else' but have seen precious little done to ringfence the tumours... so, while the CHF is prone to volatility, wouldn't the actual mechanics of moving to CHF preclude meaningful transfer?
Sorry about ripping into you the other day Bruce. Here we have the strong dollar and are we rueing the day? I fail to see how New York City let alone the USA retains the "world financial capital" ranking without doing exactly what The Bernank has done which even though it may put us in a recession is dollar positive. I can't be intellectually honest as someone who is bullish..see the bearish result of a strong dollar on the market...and then complain about it. Call it "sound money for the long haul" i guess--but didn't 2008 show we can't devalue our way to prosperity? Anywho my personal belief is that the euro is simply a flawed currency and unless and until Europe comes to grips with the simple concept of greed vis a vis human nature and then overlay this human reality with the undertaking the euro represents i think everyone would agree the chances of success now that the Union is under stress never before seen in a currency Union of this size are daunting indeed. Isn't the last thing we want to see in the world relative to Europe and anything is a history lesson?
'The hills are alive with the sound of music''......
Bruce - Nice one. You did read my post of last week. I suspect that the SNB has already been in talks with the Buba regarding revaluation of the Dmark / Swissy vs the Euro.
The SNB was probably bid at 1550/oz recently......
Ultimately, the Swiss know that gold could be used to buy their "neutrality" if Russia makes eco-political play to form a...well a eco-political "Union" for all the former satellites. The nat gas pipeline keeps Europe warm in winter.
Thanks for the granular research and effort. Cheers.
Where do you get the graffitti? My goodness man, it's so on time, so appropriate.......
That particular one looks like a Bansky?
Yes, a Banksy. This one from a Brooklyn brownstone that was being demolished.
'Pregnant' is an appropriate metaphor.
Ever since the peg was announced in Sept, i've been pondering over its implications. As an avid reader of your blog posts, i'd like to make a small contribution to facilitate the discussion by offering these tidbits as my very first post on ZH:
Possible outcomes:
1. Hard Labour
Germany leaves the Eurozone. Euro plunges to hereto unheard-of levels vs all majors. SNB unpegs with massive FX losses. Possible, but any such policy move is guaranteed to be stamped 'beyond top secret', and Germans (even bankers) seem to retain some semblance of integrity so we'll likely grow old waiting for 'leaks'. Thus, useless to try and bet on this one.
2. Miscarriage
Germany stays, with/without debt restructuring, euro depreciates naturally, SNB persists in pegging, morbidly high inflation finally hits the Swiss economy after a year or so. This scenario in a country with already high cost of living will price the average Swiss out of the property market, and put immense pressure on household expenditures. Resentment and political upheaval is the result.
3. Abortion
SNB realises the futility of its decision, voluntarily unpegs, the franc surges against EUR and USD, unemployment rate merrily follows along (upwards). Distressed european moneyed class will shower the Swiss politicians with love and compliments while the Swiss working class will hate them. Resentment and political upheaval is the result.
4. Smooth Birth
US/EU economies finally show signs of life, the Arabs agree to sell oil at US$40, China tames inflation and engineers a quiet dissolution of non-performing bank loans (aka soft landing, best achieved by instituting death penalty for subprime borrowers who choose to default), Greeks reluctantly accept austerity thereby demote themselves to quasi-3rd world, Greece and others quarantined or cut loose if not, pan european social programmes downsized without a glitch, global capital slowly regain confidence in euro-denominated debt, EURCHF floats gently to historical mean. SNB unpegs with FX profits. 'Mission Accomplished'. Possible? Sure. Anything's possible.
5. Twins!
The Swiss finally overcome their xenophobic elitist attitudes and selectively invite emigration (wealth and talent), does an Ireland and use fiscal tools to attract more fixed investments now that the franc is cheap(er), global businesses respond drawn by the discipline of the Swiss worker, strong ties to Germany, and relative insulation to wider european unrest, SNB aborbs paper losses for the time being with plans to amortise them through eventual growth in tax revenues, unpegs but intervenes occassionally to keep speculators on edge (the BOJ strategy nowadays), gradual appreciation of the franc offsets resulting demand-push inflation, anticipated franc rise also creates incentive for interested corporations to act now instead of tomorrow.
[Off-topic]
It's a real hassle to set up an account on ZH! Either this site is very secure, or very nosy.
Good run down.
#4 is simply not going to happen.
#5 is a possibility, but unlikely in my opinion.
Some combination of#s 1,2&3 are in the offing.
There is no good news for Switzerland in 1,2 or 3.
Cat On A Ledge. Welcome. Interesting scenarios. Remains to be seen how it is resolved. Worldwide implications.
100% with you on that last bit. XAU/CHF seems like a sure thing to appreciate near term. Whereas XAU/USD might go up in the near-term, but it's a harder call.
+1, bitches... Bruce is the man!
This and Al Jazeera series best of Zero Hedge. Makes up for the thousands of silly plugs for gold and silver (solder).
- Look at the first chart: Swiss, China, Russia, Japan, India, Deutschland. All exporters: Germany trades mostly within the Eurozone so it has little F/X reserves, unlike China. Switz likes its export businesses. I don't know why but without them there are the unhappy Swiss out of jobs. Not all Swiss want to work in banks.
- Here is a teaching moment: pegs never work. Soros was pontificating about Swissy somewhere in businesslandia today: that dude knows what to do with a currency peg. Soros and a host of imitators are looking for that easy money: sharks circling, looking for the chance to force the Swiss to break that peg and revalue upward.
- Right on about energy: What is taking place is euro purchasing power fleeing the Continent. Sales of petroleum are fleeing as well, this is how an energy crisis materializes in the 21st century. What happens when the euros have gone? Nobody will be able to AFFORD fuel, particularly not those using the new 'local' non- euro currencies that will replace the euro. Prediction: if the peg breaks or the eurozone fails, Germany will never sell another car to Greece, to Portugal, to Spain, to Eire. The Germans may as well board up the car factories right now.
Greece is Greece. China is also Greece. Germany is Greece, it thinks highly of itself and doesn't realize it yet.
- Swiss made the wrong move, toward conventional monetary policy: it will be a very expensive lesson for the Swiss. Better to have imposed capital controls on flight capital. Now ...?
1. laws and regulations in the US (and to a smaller degree, in the eu) defeated the swiss banking industry and the country's viability as a tax haven. it may seem odd that the swiss are integrating into the eurozone at such a time but they have few other options; after all it's but a landlocked country, can't go to war against the eu
2. by having the same currency as weaker countries in the eurozone, germany's trade benefit greatly from the euro and therefore they will not abandon it. instead greece will get kicked out of eu
3. snb will not convert their foreign reserves to gold; if they wanted to do that they'd done it before pegging their currency to the euro
How does your 1. refute bruce's 1.?
Not being a dick, your 2 and 3 make some sense.
No longer a "safe haven" in the Swiss Franc? I wonder what the 'SAPS' think? (SAPS, the Swiss Assoc of Peoples, i.e., the Swiss on the street).
BTW, excellent article Bruce.
Gold revaluation is one of the ultimate answers to the mess, but will the U.S. allow any sort of gold link to the Swiss Frank? It would seem that if anyone will link, it will be the U.S. dollar, and at vastly higher gold/dollar values, to soak up at least some of all the liquidity sloshing around.
Excellent BK - thanks.
I wonder how people might be taking quiet delivery of metals? ETF purchase and redemption?
bruce it would be the wildest of outcomes if after this whole crisis switzerland's reputation as bankers paradise was lost.
great post , as usual.
i dub thee krasting the bruce.
The Swiss have this coming.
best graffiti yet!!!
This is a Banksy. It's long since gone.
If by some miracle you could have cut this out of the wall all in one piece, you could have sold it at auction for a couple of million.
Thanks Bruce. I know a guy who bought a door and a piece of a brick wall because it was Bansky. A month later he found unknown carpenters trying to steal the door from the house owner before he took delivery! Bansky's baby and children scenes are the heart tugging ones.
Dup.
Thank you for that reference!
Asian Markets in Plunge Mode...
Strong dollar is extremely serious for the USA....
...lower exports...
...higher unemploytment...
...increased trade deficits...
very serious if they don't weaken it (the dollar)...if they can at this point in the face of a euro plunging.
You forgot tourism. Monster bucks involved. Every state is a beneficiary.
What about the swiss family that was mid euopean vakay when the peg was announced?
Time to rebudget kids, we can only buy three greek islands.
Seriously, those credit card exchange rates will be amusing as they arrive post vacation.
Like hey, I'm 20% poorer in one day???
At least in the U.S. we have he decency and respect to erode your savings gradually so you don't notice and protest corrupt financial institutions--oh wait we noticed. Sort of.
"This may seem like a far-fetched outcome. It’s not. 75% of adults in Germany are saying “No” to more EU bailouts. The possibility that Germany “Opts out” and re-established the Deutche Mark is a very possible outcome.
In this scenario the Euro (sans Germany) would be worth (overnight) 75 cents on the dollar. This would be the nuclear winter for the SNB. Losses on devalued Euros could top CHF 100 billion."
Fly little birdie, you're free!!! ;-)
Guess I shouldn't expect swiss cheese on my brats this Oktoberfest.
I'm all about breaking a bad habit while at the same time fostering independence and opportunity for all ;-)
With the numbers you are talking about I don't think the physical gold market is liquid enough. Can you please provide some perspective with real numbers and possible outcomes should the SNB want to acquire a significant gold stake with their newly printed francs?
Thanks.
Well, let's say they wanted to diversify reserves into gold. Say they wanted to hold 20% gold for each new Euro they get in the peg.
If they had done that in August it would have been a demand of about $25b. That's a lot of gold.
P. Hildebrand is the boss at SNB. The following is a speech he gave in 2005. He was crowing how smart the Swiss were in selling a chunk of their gold. They sold 1,100 tonnes at $341.
Can you say, "Loser"??
PDF
http://www.bis.org/review/r050509b.pdf
Bruce, wouldn't you think that the Cantonal Banks (55%) and other private shareholders of the SNB would be getting a little anxious about now? Wouldn't you think that they would be calling for Hildebrand's head?
Good reminder. Actually, I did not know that about the Swiss selling their gold. Seems like the Swiss are getting "rusty" at managing money. No wonder some folks say the financial centers are somewhat moving East to Asia.
I wonder how much Singapore banks hold now compared to Switzerland. I read Singapore is their main competitor for offshore money now.
I don't think the "covertly turn the unwanted Euros into gold reserves" idea can fly. First, the gold markets are already in severe flux and unstable; these giant Euro inflows could send them into seizures.
More importantly, the move would defeat Hildebrand's purpose, which was to make Euros relatively scarce while making CHF more plentiful. If he releases the Euros from the cages at SNB into the world markets via gold purchases, he is inadvertently pouring Euros back into the EU economy where they will set to work driving the EURCHF back where he doesn't want it.
Then what? Buy the euros back again to push the swissie back down? It's a non-starter.
That's true. But the alternative is to hold the Euros while the balloon goes up on the EMU cracking. That's taking all the losses straight on to the SNB balance sheet. Now they're trading their national savings for Euros. That's insane isn't it? They're saving their country's exporters by destroying their country's savings to subsidize exports. Wouldn't it be preferrable to release the Euro's for gold and have both the EUR and the CHF depreciate against gold? That way the nation's savings, in gold, are maintained through the repricing.
How about this scenario; the countries with too much debt default and renegotiate with hte bondholders. The EU declares that they are capitalists and now the Euro is a strong currency without all the sovereign excess debt. A few banks and other bondholders will have problems but the Euro survives and the plan for a new world order is still intact.
it is that simple isn't it?
History is not on your side. The problem is that people understand the pain of default. They do not understand the pain of printing fiat paper. Hence, the easy political choice is always what we end up with.
You should have said the people who print do understand what they do to the vast majority of people they hurt.
'They just don't care', as long as it makes the banking cartel look better off.
Rockin' as usual, Bruce! My thanks. Viva -- Sager
No they cannot. Doing so would break the gold market. They do not want to be blamed for the end of the world. Sadly, they have no good options. Their second best was buying Euro's.
"No they cannot"
The same was said about the quasi-peg to the Euro.
This is a whole different ballgame. I analysed their options before the peg and concluded that was their only path.
Saying they can buy gold is being ignorant of the dynamics of the gold market.
Doing so is a declaration of war against the USA.