Dhruv Pujara

IB 2
Economics Internal Assessment

Swiss Franc causing problems?

On January 15th 2015, at around 10:30 AM the Swiss National Bank (SNB)
decided to scrap a cap of 1.20 francs to the Euro that caught global
markets unawares, infuriated Swiss industrial leaders, and tipped the
economy dangerously close to a recession. The Swiss currency Franc was
pegged to the European currency known as Euro and was introduced in
September 2011 with the sole purpose of ensuring that the franc does not
appreciate. This was maintained by spending billions of francs buying
euros which led to a massive buildup in foreign-currency reserves.
However after the cap was abolished, the supply of the Franc decreased
drastically leading to a surge in inflation by about 41% against the Euro. In
this economics internal assessment, I am going to evaluate the solutions to
this current problem that Switzerland faces.
With the current super inflation of the Swiss franc, Banks racked up millions
of dollars in trading losses, and a New Zealand-based broker was forced to
shut down. Owner of Swiss watch company Swatch, Nick Hayek, mentions
The SNB has unleashed a tsunami he also goes to describe the SNB as
weak and lacking leadership. This problem that the industries face are due
to an increase in inflationary price on the franc in relation to the euro. This
makes it extremely difficult for Swiss industries such as Swatch to produce
and sell since the consumers will now have to pay a higher price, eventually
this will lead to problems within the economy. Since the Swiss are known for
making luxury items which are price elastic goods, any change in price will
lead to a higher percentage decrease in consumers willing to purchase the
goods. Swiss economic growth did suffer, with surging currency making
exports still more expensive in the euro zone, its largest market. With
exports dropping 8 percent due to the increase in price of the franc, there
are surely going to be negative effects within Switzerland. The economy
shrank 0.3 percent in three months through March 2015, which was due to
the scraping of the ceiling allowing for a higher price of the franc leading to a
decrease in exports.

Dhruv Pujara
IB 2
Economics Internal Assessment

In the graph above, we notice that after the removal of the ceiling the SNB
decided to stop buying euros which led to an increase in supply of euros
which can be seen from the increase of S to S1, and an increase in quantity
of euros from Q to Q1. However with the removal of the ceiling, the SNB no
longer needed to supply more francs into the economy to maintain the
pegged rate, hence there was a decrease in the supply of francs from S to S1
and a decrease in quantity of francs from Q to Q1. This led to an inflationary
push from P to P+40%, hence leading to the aforementioned economic
issues. Although one must remember that there are also positives in a
having an overvalued currency, which can lead to making imports cheaper.
However overall there are still large economic issues that Switzerland face.
The SNB and government should now look to collaborate to adjust monetary
policy to ensure that the country can stay at a stable economic rate. The SNB
should continue to monitor the inflation rate and should decrease it through
expansionary monetary policy. The SNB can use open market operations,
which are operations that can change the money supply within a nation, to
decrease the inflation rate. The three methods of open market operations are
changing interest rates, buying bonds for money, and lastly changing the
reserve ratio. If the SNB were to decrease the interest rate, buy bonds for
money, and reduce the reserve ratio it would lead to more money within the
economy as well as would boost the economic growth within the nation as
money borrowing for producers becomes much easier. Although the
negatives of this policy is that it could take some time to take an effect in the
economy, it could be against political interest to put forward, as well as the
opportunity cost in spending the money and time to implement this policy
versus another policy.

Dhruv Pujara
IB 2
Economics Internal Assessment

To conclude, it is extremely important for the SNB to implement a policy to

outweigh the economic decision they made by the removal of the ceiling on
the franc against the euro. The SNB must ensure they look over this
economics situation to ensure a stable rate of growth within their economy.