Investing in Switzerland: The World's Piggybank

Think of Switzerland and you think of the qualities you'd want to see in your bank: safety, stability, quality, punctuality, thrift, efficiency, and clockwork reliability. Zürich and Geneva still regularly top global surveys for best quality of life. Switzerland is the oldest democracy in the world and has retained its neutral status through every major European conflict since 1815. For much of the 20th century, the Swiss were richer than the citizens of almost any other country. Indeed, for a small, landlocked country of 7 million people with no natural resources, Switzerland is a remarkable success story.

Switzerland is also home to a lot of the most global companies on the planet. Novartis Pharmaceuticals (NVS) and Roche Holdings (RHHBY) are household names, as is Nestle. UBS (UBS) and Credit Suisse (CS), Switzerland's two biggest banks, are chalking up record profits. And the Swiss stock market also has been a solid money maker for U.S. investors, doubling over the past five years, and outperforming the S&P 500 by over four to one.

Investing in Switzerland: The Swiss Economy

Yet despite all outward evidence of prosperity, Switzerland's per capita GDP has been almost static since the early 1990s. Although Switzerland is still rich, other countries are catching up fast. And although most Swiss multinationals are world-class, the domestic business scene is much less competitive -- hogtied by subsidies and regulation.

Swiss macroeconomic numbers are solid. Economic growth is projected to reach 3% for 2007 -- better than the Eurozone's projected 2.7% for the coming year. This relatively strong performance is due primarily to accelerating exports to Germany -- Switzerland's largest trading partner.

Meanwhile, inflation is only about 1%, well under the 2% limit set by the Swiss National Bank [SNB]. Unemployment is almost non-existent at 3.1% and the government's budget is in balance. Switzerland also boasts a huge current account surplus.

Yet there remains significant hand wringing about Switzerland's mysterious "growth deficit." Here's the paradox. For more than a century, Switzerland has had one of the lowest growth rates in Europe. Yet, in terms of income per head and quality of life, it remains one of the world's richest nations. How can Switzerland grow so slowly, and at the same time maintain its position as one of the wealthiest places on earth?

Some economists argue that traditional GDP calculations understate Swiss economic performance. First, Swiss export prices have risen 30% relative to the price of imports, more than any other country in the OECD. That means the Swiss are earning more for exporting less. Second, gross national income has grown consistently more rapidly than GDP, by about 0.5% a year on average.

The bottom line? GDP figures may understate growth of national income by about one percentage point a year. This suggests that, far from being a laggard, Switzerland can boast an economic performance at least on par with its neighbors.

Investing in Switzerland: The World's Piggybank

Swiss banks' vaults contain a third of all private financial assets invested across borders. That's more than any other financial center on the planet. Financial services make up about 11% of GDP (and more than twice that in Zürich and Geneva). Financial services employ about 220,000 people in Switzerland and an additional 190,000 in other countries.

Switzerland's attraction rests on its remarkable political and economic stability, rock-solid currency, well-functioning legal system and stable regulatory framework. Add in the benefit that reporting their Swiss income to their own tax authorities is optional for foreign account holders, and it's easy to appreciate Switzerland's enduring charms.

Despite competition from up-and-coming financial centers like Singapore, Switzerland's market share in private banking actually has risen in recent years. That's been a boon to the wealth management business at UBS and Credit Suisse, Switzerland's two largest banks. Yet smaller, private banks are finding life more difficult. The number of Swiss banks has shrunk from 495 in 1990 to 356 at the end of 2002. Further consolidation, particularly among medium-sized operators, is set to continue. A new generation of customers has become more demanding and more concerned about performance. Stodgy Swiss banks have to work harder for their fees.

Nor is Swiss banking quite as secretive as it once was. Legendary banking secrecy laws date back to 1934 when Nazi Germany tried to seize assets that German Jews had hustled abroad. These laws have been loosened. A federal law passed in 1997 made money laundering, and abetting it, a criminal offense. "There has been no money arriving in suitcases for at least ten years," says a senior executive at one of the big banks. "We need to be seen to be cleaner than clean."

Investing in Switzerland: The Future with the EU?

Switzerland has a long tradition of neutrality and independence. That's what makes the pressure to join the EU so particularly irksome. In 1992, Swiss voters narrowly voted against joining the European Economic Area, which was widely seen as a "waiting room" for the EU. Another referendum in 2001 on an immediate resumption of entry negotiations was defeated ignominiously. Official government policy still aims for eventual entry. But even EU enthusiasts acknowledge that entry is unlikely for a decade or two.

Fewer than half of Swiss voters seem to favor EU membership. Even Swiss industry is resisting the lure of the single market. Indeed, there seems little upside. Switzerland's companies and economy are already closely integrated with the rest of Europe. Switzerland's influential bankers are also unenthusiastic about membership. It would probably mean the end of the Swiss franc -- now the world's fifth most important currency for international loan issues -- after the dollar, the euro, the yen and the sterling.

Truth be told, Switzerland, like Norway, does fine without the heavy hand of Brussels bureaucracy. Joining the EU, then, is mere politics. And after centuries of stalwart independence, that may be a price the Swiss are unwilling to pay.

Disclosure: Author has no position in EWL.

Comments

[steve bertrand:]

Dear Mr. Vardy,
A good, well written article on Switzerland. There are a couple of points you may be unaware of:
1. Switzerland has very cleverly negotiated bilateral accords with the EU which give Swiss citizens de facto rights of EU citizens (Swiss are free to work and buy homes in EU countries on the same conditions as EU citizens) without the necessity of being an EU member.
2. These same bilateral accords will see an open border policy come into being within the next five years (actually this is more or less the case now. I live near the French/Swiss border and cross it most days I think I had to show my passport once about two years ago)
3. Swiss banks will give EC governments the right to receive tax on interest paid to the money in Swiss accounts of EU citizens on demand.
4. There is no capital gains tax in Switzerland which allows for a very fluid stock market.
5. Lastly, many people are unaware that there is also a Franc "carry trade". Should the "carry trade" continue to unwind we will see a marked appreciation in the value of the Franc. Altogether the Swiss have shown their professionalism as bankers and financiers - as the US economy goes down we can expect the Swiss to rise. Clever those Swiss!!!
Cheers
Steve

2007 Mar 22 07:01 AM