Move – which effectively devalues the Swiss franc in an attempt to protect the economy – sparks fears of new currency war

This article is more than 9 years old

This article is more than 9 years old

Switzerland sparked fears of a new currency war on Tuesday after it pegged the Swiss franc against the euro in an attempt to protect its economy from the European debt crisis.

The Swiss National Bank in effect devalued the franc, pledging to buy "unlimited quantities" of foreign currencies to force down its value. The SNB warned that it would no longer allow one Swiss franc to be worth more than €0.83 – equivalent to SFr1.20 to the euro – having watched the two currencies move closer to parity as Switzerland became a "safe haven" from the ravages of the eurozone crisis.

The move stunned currency traders, and sent the Swiss franc tumbling against other currencies. Jeremy Cook, chief economist at currency brokers World First, said it was "intervention on a grand scale", and the start of a "new battle in the currency wars".

"That was the single largest foreign exchange move I have ever seen … The Swiss franc has lost close on 9% in the past 15 minutes. This dwarfs moves seen post-Lehman brothers, 7/7, and other major geo-political events in the past decade," Cook said.

The SNB pledged to enforce a "substantial and sustained weakening of the Swiss franc", adding that it might move to an even lower exchange rate against the euro if needed.

"The current massive overvaluation of the Swiss franc poses an acute threat to the Swiss economy and carries the risk of a deflationary development," said Switzerland's central bank.

Bold, but will it work?

The Swiss franc settled around SFr1.2026 against the euro, having earlier hit SFr1.1020. Stock markets rallied on the news, with the FTSE 100 jumping 87 points or 1.7%. The main Swiss stock market gained more than 5%.

Jennifer McKeown of Capital Economics, said the SNB's intervention was a "bold move", but warned that Swiss exports will probably still suffer as the franc remains strong in historical terms.

Back in April, one euro was worth SFr1.32. The strength of the Swiss franc has made the country's exports much more expensive and harmed its tourism business, and also encouraged some Swiss residents to cross the border into Germany to do their shopping.

Giles Watts, head of equities at City Index, warned that Switzerland could find itself in a battle with currency speculators to hold the value of its currency down.

"Most interventions in the currency markets by the authorities of late have only helped prices in the short term at best. If the euro crisis intensifies there is every chance the market could test the SNB's resolve to hold the cross rate above the 1.20 level," Watts said.

Last month, the SNB pledged to keep interest rates near zero and increase the supply of Swiss francs available to traders. This move did not succeed in weakening the currency.

The Japanese yen has also been driven higher since the financial crisis began, hurting the country's exporters and prompting Japan's central bank to launch its own interventions.

Louise Cooper, markets analyst at BGC Partners, warned that central banks do not have unlimited power – as the UK learned during Black Wednesday in September 1992.

"The Japanese example with yen intervention teaches us that intervention can work in the very short term but changing long-term global currency flows is near impossible – a lesson that the UK learned from George Soros," Cooper said.