The Swiss National Bank’s fear of float

Abstract

We theoretically examine under which assumptions the impossible trinity holds. We also focus on the most recent Swiss experience and ask whether the SNB gained monetary independence by switching from a fixed to a floating exchange rate system in January 2015. The theoretical examination shows that the impossible trinity holds under the following assumptions: Equality of domestic and foreign real interest rates, the quantity theory of money holds, and that the relative PPP is fulfilled. The empirical analysis reveals that relative PPP does not hold for the Swiss case and it was necessary for the SNB to adopt its monetary policy in accordance with the ECB’s expansionary monetary policy. We show that for a small open economy, such as Switzerland, whether the central bank implements a fixed or a floating exchange rate system does not play a role in its monetary policy independence.

Swiss National Bank: Is the Recent Loss a Threat to Monetary Policy? A Research Note1

“…A loss of a central bank does not change money supply in circulation and is, therefore, not a threat for price stability. 4 This applies only as long as losses do not affect the independence or credibility of the central bank. Of course, this can be disputed.…”

“…Therefore, in August 2011, the SNB introduced a lower floor exchange rate at 1.20 CHF/EUR (Humpage, 2013). In order to hold the exchange rate at the predetermined level and to cope with tremendous money demand shocks, a zero interest rate policy of the European Central Bank (ECB) and ongoing appreciation pressures, the SNB was forced to drastically intervene in the foreign exchange market (Amador, Bianchi, Bocola and Perriet, 2016; Berthold and Stadtmann, 2018;Berthold and Stadtmann, 2019). The SNB's foreign reserves increased tremendously.…”