Evan Soltas
Oct 26, 2015

The Swiss Shock: A Case Study

In January 2015, the Swiss central bank removed its floor on the exchange rate between the Swiss franc and the euro, allowing its currency to appreciate without limit. The immediate effect was a 20-percent increase in the value of the Swiss franc relative to the euro -- one of the largest revaluations of a developed-world currency in recent history.

The move sent tremors through the financial markets, which had been using the Swiss franc as a funding currency for carry trades and Swiss banks as a haven from the chaos of the Eurozone. Swiss exporters and the tourism industry screamed that the central bank's move would render the country uncompetitive.

I've been fascinated by this move -- whose proximate cause, I have suggested, was the resumption of capital inflows after a two-year pause, and the Swiss central bank's latent unwillingness to sterilize further inflows -- and so I've been waiting to do some post-mortem work.

What are the effects of changes in exchange rates on the macroeconomy? Switzerland provides a beautiful, clean case study. The revaluation was unanticipated before it happened and huge when it did.

To do my analysis, I'll use the synthetic control method that has been pioneered by Alberto Abadie at Harvard. You can read about that method here, but the basic intuition is that you can construct a comparison for the treated unit (in our case, Switzerland) by taking the weighted average of untreated units, where the weights are optimized so that the "synthetic Switzerland" matches actual Switzerland before the treatment as closely as possible.

The two macro variables I want to look at are stock prices and consumer prices. What I find are that the revaluation has reduced consumer prices by 1.5 percentage points but had no significant real effect on Swiss stocks.

I construct synthetic Switzerlands for consumer prices and stock returns separately. For consumer prices, the algorithm says that synthetic Switzerland is a mix of nine European countries, but is mostly a mix of Slovakia, Sweden, Netherlands, and Denmark. I use monthly data from 2004 to 2014 to do the matching. I found it interesting that it picked smaller countries, many of which have their own currencies.

What we find is that, in both actual and synthetic Switzerland, prices were flat prior to the exchange-rate shock. Such is Europe in 2014. Then, starting in January 2015, we see actual Swiss prices begin to diverge from consumer prices in synthetic Switzerland. As of September 2015, Swiss prices are now 1.5 percentage points lower than they would have been absent the revaluation.

I use data from the iShares MSCI indexes for stock returns, and I find that synthetic Switzerland is mostly a mix of Netherlands, Belgium, Sweden, and the United Kingdom. (Worth noting: On a totally different dataset, the algorithm picks roughly the same states.) Turns out we can predict daily stock returns in Switzerland quite well, as this scatterplot of actual versus synthetic Switzerland shows.

But I'm not finding any significant effect on Swiss stocks. Here are the cumulative returns for actual versus synthetic Switzerland from January 2014 to present, and any effect should appear starting in January 2015.

Perhaps this makes American investors less concerned about the effect of the appreciating U.S. dollar on their portfolios. The implication of these findings is that any nominal decline in stock prices is offset by currency appreciation.

I'll try to look next Swiss unemployment, their trade balance, and other real macroeconomic variables.