Currency Cold War

September 9, 2011

FOREX, Global Macro

Originally Published at

Unusual times call for unusual measures and the move by the Swiss National Bank (SNB) to fix the rate of the Swiss Franc against the Euro this week certainly qualifies. From a Swiss point of view I applaud it wholeheartedly but from a global markets point of view I worry that this move will have longer term implications as other central banks and politicians feel they too have to stop the rampant strength of their currency in order to protect industry.

The world is a different place from 1930, when the Smoot-Hawley tariff regime in the United States worked against  the recovery from the 1929 stock market crash by encouraging other countries to put up similar trade barriers. But I’d argue that the action by the SNB could be a 2011 version of the same type of anti-market anti-economy measures that we saw back in 1930.

Now, clearly as an Australian it would be somewhat disingenuous of me to criticize the Swiss for trying to do the right thing by their businesses in stopping the Franc from rising any further. Australia is one of the countries that has assiduously used the currency as a tool of macroeconomic policy making. In truth we probably haven’t had a lot of choice given the size of trade in the Australian dollar relative to our relevance to global trade. But when the currency needed to act as a stabilizing force by either falling or rising it has done so. So we can’t really have our cake and eat it to.

But there in lies the conundrum. Keynes’s “paradox of thrift” Harden’s “tragedy of the commons” help explain  the point nicely.

Keyne’s paradox essentially says that when doing what is right for yourself is the same thing for everyone than in aggregate the reverse could be true. Just think of Australian household savings at the moment – it’s the right thing to do for over geared Australian households but we saw some of the results of this saving in aggregate with the fall of 35k jobs in Australia in the last 2 months.

Harden takes it a little further saying that while serving your own self-interest you know that in serving one’s own self-interest this may impact on others with the costs shared by others. Here I think about the Fed’s policy with regard to QE’s 1 and 2 and their full knowledge that they were trying to kick-start the US economy and part of this plan was to weaken the dollar a much as possible without destabilizing global markets. Thus other countries whose currencies appreciated strongly shared the US pain. Better a few hundred billion share the burden than a few hundred million, hey?

The Swiss are clearly more Keynesian than Hardensian while the US and China are the latter:


But you can see why the SNB had to do something. The chart above shows the Swiss franc v Euro exchange rate (CHFEUR) exchange rate weekly for 10 years. After a long period of stability the CHFEUR had risen 66% at its strongest point back in August before the SNB flooded the market with liquidity.

But as you can see in the next chart, Europe’s malaise and the race for safe havens was quickly undoing the SNB’s handy work. That’s the green bars on the far right of the chart in the box before the big down red move:


And no wonder they felt they needed to do something. The SNB had intervened up to the middle of 2010 to no avail unable to halt the franc’s appreciation and by July last year it was forced to throw in the towel. Since then, the CHFEUR had risen another 30%+ while it had appreciated 47% at its strongest against the USD. Now if you had to perform a roll call of Swiss business you see industry leaders across a number of sectors, Nestle and Swatch for example. In smaller companies too the Swiss have made a virtue of necessity by building a knowledge economy and industries and skills on the back of same that  makes them highly innovative, highly productive and highly profitable.

This was not Dutch disease where some stronger sector of the Swiss economy was putting pressure on some other sectors, this was simply an European, US and Chinese Hardensian impost on Switzerland and it’s industry and citizens made worse by the rush for a safe haven in an uncertain world.

So, I applaud the SNB actions – it is up there with the HKMA wading into the Hong Kong Stock Exchange during the Asian crisis for effectiveness. But unlike the HKMA move which was good for themselves and, ultimately for everyone else too, as a circuit breaker for all of Asia, the SNB’s move could do the opposite.

The reason is this. There is a cold war in currencies at the moment. Hostilities ceased briefly with the end of the Fed’s QE2 program and the Chinese are moving slowly toward a more liberal trading situation for the yuan. But with the Fed and ECB signaling looser monetary policy, the SNB has joined a growing band of countries fighting to suppress their currency. The Brazilians recently cut rates in the face of accelerating inflation and the Norwegians are already crying foul, with some justification:


The Brazilian and Norwegian currencies were impacted by the SNB move as the search for a new “non-gold” safe harbor intensifies. The Australian dollar is holding up too well for my liking as well, but its links to China and global growth probably continue to undermine any sustainability as a safe haven, although as I have written many times, I think that it has been rerated and won’t fall as far as usual once it does drop.

So here is an increasing chance that this is just the thin edge of the wedge. I can see the Singapore dollar under pressure to rise as the Switzerland of Asia but the MAS will fight and probably win that battle. I can see the Korean Won under pressure to appreciate but the authorities will further clamp down on trade and I can see the Brazilians imposing more restrictions or cutting rates to dampen demand for the real.

David Bloom the London based Head of Currency Strategy at HSBC was quoted on Bloomberg as saying that “As we hit the zero bound in interest rates, central banks have shifted to exchange rate policy, aiming to have the  weakest currency in town. This is a game that everyone can’t win, but that doesn’t mean they won’t keep trying.”

Yes indeed – I hope currency manipulation policy doesn’t grow into the Smoot-Hawley of our time but the risk is certainly there. The Australian dollar’s ability to act as a natural stabilizer for our economy will be hurt.

This blog is for information only and does not constitute advice. Neither Greg McKenna nor Lighthouse Securities has taken your personal circumstances, objectives or financial situation into account. Because of this you should, before acting on this information, consider its appropriateness, having regard to your objectives, financial situation or needs.

If you do need economic, investment or financial advice we are happy to help.

Please Email the team at Lighthouse at or Greg directly on

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