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| Type | Bachelor's Thesis |
| Scope | Discipline-based scholarship |
| Title | What Drives The Swiss Franc? A comparison of FX-Factor Sensitivity Before and After the Lower Bound on the Euro |
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| Institution | University of Zurich |
| Faculty | Faculty of Business, Economics and Informatics |
| Number of Pages | 35 |
| Date | 2016 |
| Zusammenfassung | Since the outbreak of the euro crisis in 2008 the Swiss franc appreciated strongly against all major currencies. As a response to this increasing hazard for the Swiss economy, the Swiss National Bank announced the introduction of a minimum exchange rate of 1.20 Swiss francs per euro. The following thesis takes advantage of Paul Krugman's (1991) model for exchange rate behavior in target zones to analyze the implications of a lower bound for currency exchange rates. According to Krugman's model the exchange rate is described as a curved function of a fundamental variable. Moreover , the exchange rate should be a smoother function of its fundamentals than it would be under a free float. This paper investigates the almost unique situation for the Swiss currency by taking into account state variables which represent different measurements of risk for the time before, during and after the inception of the lower bound. First we identify the Swiss franc as a safe haven that appreciates during times of turmoil and vice versa. Next we use state variables which indicate times of global market uncertainty as fundamentals to show that the sensitivity of the Swiss franc/euro exchange rate declines as the Swiss franc approaches its lower bound. We regress percentage changes in the FX spot market to percentage changes in fundamental variables interacted with the percentage deviation of the spot rate from its lower bound, where the fundamental variables indicate different measurements of market risk. We run this adapted regression model for the time before, during and after the minimum exchange rate to provide evidence for Krugman's simple, though elegant, model for the behavior of the exchange rate within a target zone. This paper found evidence that the EUR/CHF exchange rate can be described as an S-shaped function to stock market returns or stock market volatility during the period of an official minimum exchange rate. In other words, the EUR/CHF exchange rate is more sensitive to changes in the stock market the further away from minimum exchange rate (EUR/CHF = 1.20) it notes. For other state variables examined in this paper we could not find any evidence for a. connection between them and the behavior of the exchange rate for the period with a lower bound. As predicted by Krugman's model, this thesis shows that the smoothening effect disappears as soon as the SNB discontinued to hold on a minimum exchange rate. An S-shaped curve of the exchange rate could no longer be detected for the period after the minimum exchange rate. Furthermore, this paper provides small evidence that Krugman's model could partly be fitted to the examined time before the introduction of the minimum exchange rate. although it remains unclear why this effect also appears for the time without an official minimum exchange rate. especially because most of the assumptions which are made for this model are not met.. The correct choice of the time horizon is a. crucial condition for using Krugman's regression model. A slightly different time period can lead to different results. Additional research is needed to clearly illustrate why similar effects could be observed during times without an official minimum exchange rate and bring further evidence to this observation. |
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