A case in point is the SNB’s decision to introduce the minimum exchange rate of CHF 1.20 per euro in September 2011, and then discontinue it earlier this year. As mentioned, in enforcing the minimum exchange rate, the SNB intervened heavily in the foreign exchange markets, and did not refrain from taking on significant balance sheet risks, particularly in 2012. At the time, interventions were necessary to counteract upward pressure on the Swiss franc resulting from substantial capital inflows and a lack of outflows due to flare-ups in the European debt crisis. Towards the end of 2014, the minimum exchange rate again came under increasing market pressure, requiring renewed interventions by the SNB. This time, however, the international environment was very different. While expectations of an interest rate rise in the United States were mounting and the dollar was appreciating, from mid-year onwards there were signs in the euro area of further monetary policy easing, and the euro started to weaken across the board, pushing the EUR/CHF exchange rate close to the CHF 1.20 per euro floor. On the back of these developments – also reflecting the collapsing interest rate differential – Swiss franc investments again became relatively more attractive. Given these circumstances, and in view of quantitative easing in the euro area, the continuation of the minimum exchange rate policy would have meant a permanent, potentially uncontrollable expansion of the SNB balance sheet.
Why not persevere with the minimum exchange rate, instead of exposing the Swiss economy to the downsides of negative interest rates and the challenge of a stronger currency? With this question in mind, let me turn straight to a second fiction regarding Swiss monetary policy, namely, that an unlimited lengthening of the SNB balance sheet would be riskless. This fiction flies against common sense and is mostly prevalent in academic circles. I will try and clarify some misunderstandings with respect to central bank balance sheets by stressing three important facts that apply both generally and to the current Swiss monetary policy situation in particular. First, a central bank balance sheet is never a target per se, but rather, its size and composition simply mirror monetary policy decisions. Second, massive balance sheet expansions carry financial and economic risks. 3 This is clearly the case when the policies underlying the balance sheet expansion comprise outright purchases of foreign exchange. This puts foreign exchange risk on the central bank’s balance sheet. Third, policy measures involving a significant balance sheet expansion should be taken only as long as the benefits in terms of the broader policy objective clearly justify the risks and cover the costs associated with the balance sheet expansion. It is important to note that the costs and benefits of a given policy measure may change over time, and must therefore be reassessed repeatedly.