Swiss National Bank: Hero or Villain?

There has been much hand wringing among popular blogger-economists in response to the breaking of the Euro peg by the SNB. Tyler Cowen, Paul Krugman, and Scott Sumner all lament the loss of “credibility” by the SNB in the wake of its sudden change of policy regime and they darkly hint at dire consequences for the Swiss economy. But the problem with central banks is not credibility, or lack thereof. The Greenspan-Bernanke Fed and other central banks surely lost all credibility over the last 20 years by unwittingly unleashing asset price inflation on the world during the “New Economy” era of late 1990s and then deliberately stoking the inflation of asset prices as a means of stimulating recovery from recessions in 2001 and then again following the financial crisis later in the decade. Indeed the effects of the Great Recession still linger on in the U.S. more than 5 years after it officially ended.  This is despite the “unconventional” and extraordinarily inflationary monetary policy of the Fed that has driven  the stock and bond markets to all-time highs and rekindled the housing boom.

The real danger from central banks therefore does not lie in their loss of credibility, but in their lack of accountability to the public and its elected representatives. It is precisely accountability, however, that Cowen and his fellow economics bloggers fear and loathe. Cowen contends that the SNB caved to political pressure because its bureaucrats sought to “hoard institutional capital”—more plainly, to remain in political favor. According to Cowen,

Without such capital , semi-independent central banks would soon cease to exist, to the detriment of us all.

Cowen has it half right.  As one advocate of sound money noted, the recent Swiss gold referendum, even though it failed, was a wake-up call for SNB bureaucrats. Where Cowen gets it wrong is in claiming that wresting the function of supplying money away from the central bank and placing it under overt political control would be “to the detriment of us all.” As I have written elsewhere regarding the proposal to have the U.S Treasury take over monetary policy operations:

A common objection to such a proposal is that if money were under the control of the Treasury, monetary policy would become a political football, inflation would be rampant, the United States would founder in a sea of red ink, the dollar would tank on foreign exchange markets, blah, blah, blah. But how much more inflationary would monetary policy become than it is right now? The unelected and unaccountable bureaucrats at the Fed have fastened on the US economy a regime of zero interest rates, indefinite quantitative easing, and the insane targeting of a real variable (the unemployment rate) using nominal variables. . . . This is a reversion to stone age Keynesianism.

Regarding Sumner’s claim  that abolishing the price ceiling on the CHF will somehow overvalue the currency and ravage the export-dependent Swiss economy, nothing could be further from the truth. First, price controls of any kind, but especially those on currencies, misallocate resources, distort economic calculation and thus the pattern of international trade, and reduce national and global prosperity. Second, the inevitable pain that will attend the short-run adjustments of the Swiss economy to currency appreciation pales in comparison to the long-run economic destruction that would have been wreaked on the Swiss economy by inflation imported from the Euro area had the peg remained in place in the face of the massive QE program just announced  by the ECB. Third the Swiss economy is extremely flexible and will be able to adjust to the appreciation of its currency. Leonid Beshidsky points out that, as the EU stagnated, Swiss exporters increased their exports to the U.S., their second largest trading partner. In November 2014, Swiss exports to the U.S. increased by 10%, the fourth consecutive double-digit monthly increase.  Meanwhile exports to the EU fell by 2% in November 2014. The Swiss will also be looking to expand exports to China.