The currency market has been thrown into chaos this week as the Swiss National Bank (SNB) acted in defiance of all its previous assertions that it would protect its cap with the Euro at any cost.
As the SNB has, up until now, vehemently stressed the importance of maintaining the 1.20 Euro per Franc floor, the central bank’s decision to do away with the cap stunned both investors and economists and chucked the Euro into freefall.
The cap had been in place since 2011 and was designed to restrain the safe-haven Franc. However, as speculation surrounding the potential introduction of quantitative easing from the European Central Bank (ECB) intensified, the Euro posted broad-based declines and the EUR/CHF cap was severely tested.
The SNB cited the Franc’s excessive strength as the main reason behind its decision, but some industry experts are of the opinion that insider knowledge of the ECB’s next policy steps also played a part.
Given that the SNB was the largest Euro buyer, the common currency fell by around 30% against the Franc in the wake of the announcement.
The Franc also rallied by more than 25% against several of its other main peers, including the US Dollar and Pound.
However, while the Euro did fall to as low as 0.85 Francs, an upward correction saw the common currency prepare to close out the European session trading in the region of 1.05 Francs.
The SNB said of the decision; ‘This exceptional and temporary measure [the cap] protected the Swiss economy from serious harm. While the Swiss Franc is still high, the overvaluation has decreased as a whole since the introduction of the minimum exchange rate. The economy was able to take advantage of this phase to adjust to the new situation.’
As well as scrapping the EUR/CHF cap, the SNB opted to push its deposit rate further into negative territory, taking it from -0.25% to -0.75%.
The repercussions of this unexpected move are likely to be felt for some time, but investors will also be looking ahead to the ECB’s upcoming policy announcement with greater trepidation.
If the central bank intends to roll out a larger-than-forecast QE scheme (which is likely given the SNB’s decision) the currency market could be in for another rough ride.