STAFF NEWS & ANALYSIS
Switzerland to Tighten the Screws on Banks
By - August 19, 2008

The multibillion-dollar write-downs at UBS and Credit Suisse have shattered Switzerland's reputation for reliability as a financial powerhouse, so its not surprising that the country is looking at ways of regaining investor trust. The Swiss National Bank, the country's central bank, is calling for the tightening of the requirements for large Swiss banks, and – mirroring the system of the United States – for restraints to be placed on their leveraging ability. In its annual financial stability report published on Thursday, the bank said that the subprime crisis had revealed weaknesses in the Swiss banking sector that need to be addressed, particularly regarding its ability to withstand shocks. "Above all, this means that the size of capital and liquidity buffers in the financial system has to be increased during good times." The central bank says it is focusing on two areas. First, it wants to tighten the risk-weighted capital requirements for Swiss banks. It said the recent troubles highlighted the need for a "higher capital buffer" at Credit Suisse and UBS. "Their size and importance for the Swiss economy justifies especially prudent decision making when determining the level of their capital base," according to the report. Second, it wants to place a limit on the extent to which banks are able to leverage their investments. The central bank says that average indebtedness at UBS and Credit Suisse, running at around 97.0%, is very high by international standards, posing a major financial risk. "In the current crisis, losses arose on Swiss big bank risk positions which are relatively small in comparison to total assets. However, because leverage was high, in the case of UBS these losses destroyed almost half the bank's equity," said Philipp Hildebrand, vice chairman of the central bank's governing board in a speech on Thursday. According to David Williams, an analyst at Fox-Pitt Kelton Cochran Caronia Waller in London, the move by the Swiss National Bank, in tandem with the Swiss Federal Banking Commission, highlights the increasing focus of regulators on bank's capital positions. "Regulators are increasingly of the view that capital being allotted to investment banking is completely inadequate." – Forbes

Dominant Social Theme: Even in Switzerland, the central bank must take the financial system by the hand and show the way forward.

Free-Market Analysis: Thank goodness! Switzerland's central bank is going to make sure that Swiss banks have more assets to cover risk – and that they can't leverage their riskiest lending. These decisions are aimed in part at the giant Swiss bank UBS which has taken tens of billions in losses in a concentrated period as it struggles with losses in derivatives and sub-prime mortgage investments.

Have you detected the note of sarcasm, yet? Of course, if we were speaking of the pre-2000 Swiss franc and its central banking sponsor, it would be incumbent upon us to be most respectful. That's because until then there was a direct link between the Swiss franc and gold.

Here's how Wikipedia puts it:

The Swiss franc has historically been considered a safe haven currency with virtually zero inflation and a legal requirement that a minimum 40% is backed by gold reserves. However, this link to gold, which dates from the 1920s, was terminated on 1 May 2000 following a referendum regarding the Nazi gold affair with Swiss banks and an amendment to the Swiss Constitution. By March 2005, following a gold selling program, the SNB held 1,290 tonnes of gold in reserves which equated to 20% of their assets.

And here is the actual announcement of the act:

12. avr 2000 – The new Federal Constitution has abolished the gold standard of the Swiss franc on the constitutional level. On the legal level, the link between the Swiss franc and gold will be severed within the framework of a new Federal Law on Currency and Legal Tender. This new law incorporates all relevant characteristics of currency and legally accepted money. The new Federal Constitution has abolished the gold standard of the Swiss franc on the constitutional level. On the legal level, the link between the Swiss franc and gold will be severed within the framework of a new Federal Law on Currency and Legal Tender. This new law incorporates all relevant characteristics of currency and legally accepted money. The Law on Currency and Legal Tender was approved by both houses of parliament in the winter session of 1999. The deadline for a referendum expired on 20 April 2000. The Federal Council decided to put the new law into force as from 1 May 2000. When this law is put into force it will create the conditions for a revaluation of the gold reserves of the Swiss National Bank (SNB) and the sale of gold. In order to prevent any adverse effects on the price of gold, the SNB will closely co-ordinate its sale of gold with other European central banks within the framework of an agreement made last September.

Yes, we know there are still differences between the Swiss system and central banking systems in other countries – the ones in other countries are still worse! But the Swiss system is not what it was and perhaps never shall be again. Like other Western countries, it seems, even Switzerland is gradually falling prey to the fiat mania that is sure to bring down the West sooner or later (and these days it seems a lot like sooner).

Now because one has to put one's trust somewhere in these parlous times – and Switzerland is as good a place as any – one fervently hopes that the slide into a fiat economy in Switzerland is slowed or even reversed. But then we read about Swiss central banking announcements and we become less sure. Why? Because of the tone. A certain smugness. A certain arrogance. These central banking types, no matter where they end up, always seem confident that their next "fix" is the one that is going to do it, to save the day and ensure that there are never again going to be the kinds of problems that are happening right now.

Yet haven't we seen this scenario before – how long does this have to go on before people get the idea that saying something doesn't guarantee its occurrence? You can talk all you want, but if the setup guarantees a different result, then what good are the words?

The funny thing about all this (ironic-funny, anyway) is that for someone with a healthy respect for Western institutions, values and the intellect of its leading citizens, the central banking system is becoming more astonishing and perplexing every day. How many times, after all, can you see the "best and brightest" march up to the microphone and make statements that are contradictory on their face. No, the central bank is not an "inflation hawk." Never can be, since it prints the fiat money that lights the match. No, the central bank cannot provide discipline for member banks since fiat money systems by definition are undisciplined, fragile and prone to manias.

After Thoughts

We gave up on Forbes a long time ago, but surely somewhere, someone should be pointing out to the Swiss National Bank that a mania is just that. Once a mania starts, the disciplined regulations that have been put in place during the hard time are likely breached over time (and manias tend to go on and on). Greed will overcome even the complex and rigid environments. The Swiss central bank, like central banks around the world, is busy putting in fixes that probably won't fix and will get either ignored or changed when the next mania rolls through.

It's a little bit like fighting the last war, in fact. Each mania is different, and each seems at least a little bit worse than the last. The system virtually demands it. After each crisis, so long as the system doesn't entirely collapse, those who are responsible for the manias declare ways they intend to "fix" the situation. Inevitably, they neglect to explain they are responsible to begin with – because they printed the paper that led to the inflation that caused the boom that ultimately turned into a bust.

We are happy to see the Swiss central bank is taking the proper tone of seriousness when addressing this latest crisis. Too bad the Swiss franc has witnessed an increasing devaluation with respect to its asset backing – now that's a really serious issue. And as far as raising capital requirements and barring leverage, it will work right up until the next market mania and then the restraints will fly off because MANIAS SEEM REASONABLE TO BEGIN WITH. A mania is a mania because it sucks so many people in, even bankers. The pressure ratchets up, shareholders demand that the bank get "in on the action" and those with level-heads get shoved toward the door.

If the Swiss monetary elite were really serious, they'd bring back a stern gold standard. That would make Switzerland the envy of the world – which it once was.

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