(James Saft is a Reuters columnist. The opinions expressed are his own)
By James Saft
REUTERS - There is a very good chance that former Swiss National Bank chief Philipp Hildebrand will be remembered not for the scandal which forced him from office but for the folly of his policy.
Hildebrand stepped down, effective immediately, on Monday, saying he could not prove he hadn’t known about a currency trade made by his wife which became hugely profitable when he moved to establish a cap on the value of the Swiss franc against the euro. Hildebrand says he did not know his wife Kashya , a former hedge fund trader, bought 400,000 Swiss francs’ worth of dollars three weeks before the SNB offered to buy as many euros as you care to sell at a rate of 1.20 francs each.
Whether that trade was corrupt or just ethically tone deaf is impossible to say, but in either case you can construct a good case that Hildebrand’s biggest mistake will prove to be the policy itself, which may in the end only magnify the damage the euro does to the Swiss economy and treasury.
Hildebrand’s motivations in setting the policy are easy to understand. Confronted with a wall of money which wanted out of the euro and into the safer Swiss franc, Hildebrand’s cap was an effort to shield his economy from the deflation coming out of the euro zone - remember the more the franc will buy the less things cost - and to retain some semblance of competitiveness among Swiss producers of goods and services, who are surrounded on all sides by euro-based rivals with newly attractive prices.
That’s all motherhood and apple pie - or in a Swiss context chocolate and banking secrecy - but the policy is a prime example of massive policy over-reach. Switzerland acted alone and, as it had to, committed to buying euros in “unlimited amounts,” essentially setting itself up as the guarantor of the value of something, a role that reeks of hubris.
Thus far, the Swiss policy is almost universally acclaimed as a success. It has been successful; despite continued ructions in the euro zone the cap has not been truly tested. That’s not the point. In going it alone and seeking to single-handedly hold back the sea, Switzerland makes a very typical risk management error by selecting a policy that will improve outcomes marginally much of the time, but lead to disaster in isolated circumstances.
DON‘T BET THE FARM
Think about what happens if an important euro state falters menacingly. Let’s say that Italian depositors lose faith in Italy or in Italian banks, something that given the recent near halving of the value of Unicredit (CRDI.MI) shares is not an absurd scenario. Those depositors will wish to withdraw their money and put it somewhere where it is not likely to be converted into new lire, or new drachmas or new escudos. While some will try to deposit in a German bank, many will simply seek a way out of the euro entirely.
When a mass of people all try to do the same thing at the same time, they often, in a normal market, find it difficult to all use the same exit. Switzerland’s policy, then, becomes an invitation to take the SNB up on its unlimited offer, one with limited downside for fleeing Italians and the chance of big gains if the central bank ultimately blinks. The resulting damage to Switzerland, which will already suffer greatly in such a scenario, would be all the larger.
Hildebrand has violated two concepts which should be golden rules for central bankers; only take on the markets when you are acting together with the other central banks involved, and never bet the farm. Being a central banker, with your very own money press, can feel dangerously like being a god, and it’s important to not fall victim to your own feelings of omnipotence.
Switzerland is in a tough spot; it’s horrible to be a little economy in the midst of a larger disaster, but acting as if you can control your own destiny only makes you even more a hostage to fortune.
This then is the line that connects Mrs Hildebrand’s reprehensible trade to her husband’s dangerous policy: an arrogance that is all too often on display among financiers and economic policy-makers. Even taking him at his word that he didn’t know about the trade, there is something unbelievably wrong about her thinking that she, the wife of the central banker, should be making speculative trades at all, much less in the currency he is supposed to manage. That same arrogance colors the Swiss franc policy, even if the intentions behind it are benign.
There are problems, globally, not just with the individuals making stupid or arrogant decisions, but with the culture in which they operate, one which has as its hallmarks a blindness to risk and a sense of entitlement. (Editing by James Dalgleish) (At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund.)