The Changing International linkages of Switzerland: An Overview

The Swiss Current Account

This section focuses on the current account section of the balance of payments, 3 with the financial account discussed in section 4 below. The Swiss current account has shown a sizable surplus of around 10 percent of GDP for many years (figure 1, red line). This first reflects a sizable trade surplus (blue line), with a steady increase and moderate fluctuations. Switzerland’s net international creditor position also translates into a surplus in the earnings on foreign assets, net of the payments to foreign investors (green line). This net income surplus is substantial, despite a decrease owing to lower interest rates. It is also quite volatile as the earnings of Swiss firms’ foreign affiliates are sensitive to the world business cycle, in particular during the 2008 global crisis. Finally, we observe small and steady deficits in the last two components of the current account, namely the labor income earned by foreign residents working in Switzerland (orange line) and transfers to the rest of the world (grey line).

It is interesting to take a closer look at the Swiss trade balance (figure 2). While one often thinks of machinery, chemicals, or financial services as the main Swiss exports, other components play a substantial role.

First, Switzerland is a hub in the gold trade, not only in terms of trading but also in terms of processing and refining of the metal itself (Swiss National Bank 2014). The gold shipments entering and leaving Switzerland are recorded as “non-monetary gold” transactions in the balance of payments. While the balance of this category is on average close to zero, it can display sharp movements (orange line). In particular, the global crisis has been associated with sizable gold imports over several years.

Switzerland Current Account

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The last two components of the trade balance are more usual. Given its position as a financial and insurance center, Switzerland is a sizable exporter of services with a sizable surplus (green line). This surplus has however decreased since the 2008 crisis, a development that primarily reflects the contraction of financial services exports. While these accounted for nearly a third of all services exports in 2000, their share has since decreased to 17 percent.

Finally, the balance of trade in goods shows a steady trend (blue line). While exports and imports were roughly in balance in 2000, the surplus has since increased and now amounts to 4.5 percent of GDP. The steadiness of the trend is striking as it persisted even in recent years when the Swiss franc appreciated, which appears to be at odds with the concerns expressed by export-oriented manufacturers. This puzzling pattern can be clarified by a closer look at goods exports.

Switzerland Trade Balance

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Sectoral and geographical shifts in the trade in goods

The data on goods trade allow us to refine the analysis along sectoral and geographic lines. The sectoral composition of exports has undergone substantial shifts (figure 3). The share of machinery, equipment and electronics (green bars) has steadily trended down. While that sector account for a third of exports in 1990, this share has shrunk to 19 percent in 2010, and has further decreased to 15 percent in 2016. The metals sector (light blue bars) has gone through a similar pattern with its share going from 9 to 6 percent. While the falling share reflected a slower growth of exports in these sectors relative to others, the situation has changed since 2008 as exports in both sectors have since contracted in absolute terms.

The evolution has been more stable in two other sectors. The share of precision instruments exports (purple bars) has remained steady, despite a stagnation in absolute terms since 2008. The share of watches (red bars) shows a steady share at around 9 percent. That sector is however quite sensitive to world demand, with a sizable contraction of watches exports since 2009.

By contrast, the chemicals sector accounts for a growing share of exports (dark blue bars). While it only accounted for a quarter of exports in 1990, the share of this sector has noticeably increased to 39 percent in 2010 and 45 percent in 2016. A closer look at chemicals export shows a steady pace with very little sensitivity to the world business cycle and exchange rate movements, as shown in Hanslin Grossmann, Lein and Schmidt (2016) who undertake a sector level assessment of exports sensitivity to external demand and exchange rates. If anything, exports in that sector have picked up since the abandonment of the exchange rate floor against the Euro in early 2015, with its share of exports increasing from 41 to 45 percent in just two years.

The growing share of the chemicals sector in Swiss exports. Limited sensitivity to exchange rate fluctuations, raises the possibility that in the future the impact of the external value of the Swiss franc on aggregate trade flows could materially decrease. Of course, the impact on the more “traditional” export sectors would remain substantial. The rising role of chemicals could also impact the dynamics of the overall current account given the large role of research and development in that sector (Sauré 2015).

Switzerland Export by Sector

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The geographical pattern for exports is also observed for net trade flows. While Switzerland still shows a trade deficit vis-à-vis Europe, its magnitude has been decreasing. Surpluses on the other hand have increased towards North and Latin America, the Middle East and Asia (except for China where the balance remains in deficit). While Switzerland has substantially diversified its exports market away from Europe, that region nonetheless remains a substantial trade partner for obvious geographical reasons.

Geographical Composition of Goods Export

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The Swiss financial account

We now turn to the financial account, i.e. the types of assets in which Switzerland invests its current account surplus (FDI, portfolio investment, banking positions, and reserves of the Swiss National Bank).

The composition of financial flows has gone through substantial changes since the beginning of the crisis. Figure 5 shows net financial outflows (purchases of foreign assets by Swiss residents net of purchases of Swiss assets by foreign residents). The total flows are depicted by the black line, which corresponds to the current account balance (up to the statistical discrepancy). Overall flows averaged 14 percent of GDP before the crisis. They
narrowed during the most acute phase of the crisis and then recovered.

The relative stability of overall net flows however hides sizable shifts in their composition, in particular regarding the role of the banking sector4 and the Swiss National Bank. Figure 5 contrasts the net ouflows linked to banks (blue bars), to private investors outside banks (red bars) and the reserve accumulation by the Swiss National Bank (green bars). Before the crisis, reserve accumulation was negligible. While Swiss banks invested substantial amounts abroad, foreign banks also invested in Switzerland, and these two flows largely offset each other. The current account surplus was then essentially funded by nonbank private investors.

The financial crisis in the United States led to a first serie of changes. In the first year before the collapse of Lehman Brothers (2007 Q3 to 2008 Q2) private non-bank flows narrowed, while reserve accumulation remained minimal. The collapse of Lehman Brothers led global banks to reassess the risk on their investments and retrench to their domestic market. Not only did banks stop investing abroad, but they sold foreign investments and repatriated the funds. While this pattern occurred for both foreign and Swiss banks, it was more pronounced for Swiss banks who suffered substantial losses on the US market. The larger retrenchment by Swiss banks translated into a negative net ouflows, i.e. a flow of funds towards Switzerland.

Switzerland Financial Account

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The changing volatility of net flows is illustrated by figure 6 which presents the standard deviation of net flows by categories. While net flows were steady before the crisis, and in its first year, their volatility sharply increased subsequently, including during the period when the exchange rate floor against the Euro was in place. Waves of private inflows (especially from banks) were concentrated in some quarters, and countered by reserve accumulation by the Swiss National Bank. Since the abandonment of the exchange rate floor, net private flows have stabilized, and so has the accumulation of reserves.

To sum up, the financial account underwent substantial changes in the crisis, with a retrenchment of banks to the domestic market, a decrease in non-bank private flows (until recently), and a rising volatility of net private flows. These changes have led the Swiss National Bank to purchase substantial amounts of foreign assets, so much so that reserve accumulation account for the entire current account surplus since late 2008. Of course this does not imply that the current account would have been balanced in the absence of interventions by the SNB, as these interventions can induce private flows (when the SNB purchases foreign assets from Swiss banks against Swiss franc liquidity for instance). Still, it is quite possible that the current account surplus could have been lower without the interventions, and the Swiss franc stronger against other currencies.

Switzerland Gross Domestic Product

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The Swiss international investment position

While the previous section focused on the capital flows in the financial account, we now consider the corresponding stocks of financial assets and liabilities of Switzerland vis-à-vis the rest of the world. Switzerland is a sizable creditor to the rest of the world, as can be expected given the large current account surpluses. At the end of 2016, the Swiss net international investment position (NIIP, the value of foreign assets held by Swiss residents, net of liabilities of Swiss residents to foreign investors) reached 131 percent of GDP (figure 7, black line). This is a high figure in international comparison. In addition, the NIIP has been relatively steady since 2000, with a reduction since 2012 offset by a pickup in 2016.

The stability of the overall NIIP however hides some substantial shifts in its
composition, similar to the ones discussed above for financial flows. Until 2007 the NIIP primarily consisted of net claims from the private non-bank sector (investment in foreign affiliates, portfolio holdings of shares and bonds, green line). The net position of the banking sector was essentially balanced (red line) as holdings by Swiss banks abroad were offset by their liabilities to foreign residents. Reserves held by the Swiss National Bank (blue line, 15 percent of GDP in 2007) only represented a small share of the overall NIIP (127 percent of GDP in 2007).

The crisis substantially affected the composition of the NIIP. First, the banking sector became a net debtor vis-à-vis the rest of the world, with its net debt now representing 50 percent of GDP. This results from the pattern of flows presented above. During the crisis, Swiss banks substantially reduced their holdings abroad, a shift that was only partially offset by a pullback of foreign banks out of Switzerland. Second, the net position of the private nonbank sector has substantially decreased during the Euro crisis, going from 123 percent of GDP
in 2011 to 54 percent in 2015, with some recovery in 2016. The net international investment position of the private sector was thus close to balance in 2015, and only amounted to 24 percent of GDP at the end of 2016. This sharp pullback of the private sector has been offset by the accumulation of foreign reserves by the Swiss National Bank (blue line), which currently account for nearly the entire NIIP.

Switzerland Net International Investment Position, 2000 - 2016

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Switzerland Current Account YoY, 2000 - 2016

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The magnitude of these valuation effects is especially substantial when the NIIP results from a large leverage between sizable assets and liabilities. This is indeed the case in Switzerland, as in most advanced economies. Specifically, assets held by Swiss residents abroad represent 671 percent of GDP, while claims by foreign investors on Switzerland amount to 541 percent of GDP. With this leverage, a movement in asset prices and exchange rates that affects more assets than liabilities has a sizable impact on the NIIP. Such asymmetric shifts are empirically relevant as the composition of assets differs from that of liabilities. Specifically, bonds represent a larger share of assets than of liabilities, the opposite being the case for stocks. A global increase in stock prices thus translates into a capital loss for Switzerland as it primarily raises the value of its liabilities to foreign investors.

A sizable leverage also exists in terms of currencies. The data allow us to distinguish between positions denominated in Swiss francs, in foreign currencies (US dollar, Euro, and others) and in precious metals. As can be expected Switzerland is a net debtor in Swiss franc denominated holdings (286 percent of GDP) and a net creditor in foreign currency holdings (416 percent of GDP). A 5 percent appreciation of the Swiss franc then leads to a capital loss of 20.8 percent of GDP. The currency leverage of the Swiss NIIP has been increasing, as a similar appreciation would have led to a loss of 15 percent of GDP in 2010.

While the SNB data do not provide a decomposition of the dynamics of the NIIP between various sources of capital gains and losses, we can compute estimates of the various effects. Figure 9 presents the change in the NIIP from one year end to another (black line). This change is decomposed between financial flows (grey bars), capital gains and losses stemming from exchange rate movements against the US dollar (blue bars), the Euro (red bars), other currencies (orange bars), the price of precious metals (dark green bars) and the residual (light green bars). This last category includes the valuation gains and losses from asset prices (in the currency of denomination) and other statistical variations.

Since the beginning of the crisis the appreciation of the Swiss franc has led to sizable valuation losses, especially driven by the Euro. These were most pronounced in 2010 and following the abandonment of the exchange rate floor in 2015. Asset prices also played a substantial role with large losses in 2012-2014, partially offset by gains in 2016.

To sum up, the crisis has seen a significant shift in the composition of the Swiss NIIP with a growing role of the Swiss National Bank. Fluctuations in asset prices and exchange rates have also translated into substantial losses on the Swiss portfolio which essentially offset the entire additional savings over the last sixteen years.

Switzerland NIIP, 2000 - 2016

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The contribution of international trade to growth

Our analysis so far focused on nominal figures from the balance of payments. To gauge the impact of international linkages on growth and employment, we complete it by an assessment of the real figures. Specifically, we rely on the real trade flows (goods, services, and merchanting trade)8 from the national ccounts published by the SECO, which also include nominal figures and price deflators.

Figure 10 presents the contribution of net exports (red line) to overall GDP growth (black line), and further split exports between goods (blue bars), services (orange bars) and merchanting (green bars). The years since 2000 are split into four periods: the pre-crisis years, the acute phase of the crisis with the fall of Lehman Brothers, the years of the Euro crisis, and the last two years following the abandonment of the exchange rate floor against the Euro. Before the crisis the trade surplus contributed about half the GDP growth (1.1 percentage point out of 2.5 percent), primarily thanks to surplus in goods and services.

The crisis led to a substantial weakening of net exports as an engine of growth. In the acute phase of the crisis, their contribution turning negate, with the balance on services substantially turning around. By contrast, the surplus in merchanting services held well. While the Swiss economy recovered in subsequent years, this was not driven by net exports which only contributed 0.2 percentage point out of an annual growth of 1.9 percent between 2010 and 2014. While trade in goods posted a surplus again, this fell short of its value in the precrisis years. In addition, services remained in deficit, and the merchanting surplus weakened.

The last two years present an interesting pattern. As one can expect, Swiss growth weakened following the sharp appreciation of the franc since the beginning of 2015. This weakness was however solely driven by the domestic economy, as the contribution of net exports actually increased to 0.6 percentage points. This pickup was driven by merchanting exports and trade in goods, itself largely driven by the chemical sector as discussed above. As merchanting and chemicals are relatively insensitive to exchange rate movements, the expected adverse impact of the exchange rate was indeed observed but in other sectors which account for a decreasing share of trade. Trade of services remained in deficit.

In short, the role of international trade as an engine of growth has been reduced by the crisis, and is now more narrowly driven by specific sectors.

Switzerland Contribution to Growth, 2000 -2016

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