Abstract

Switzerland has a long tradition of capital exports. As domestic savings exceeded domestic spending, Swiss financiers and governments were already actively engaged in international finance in the eighteenth century. Net capital exports continued into the twentieth century, except during periods of the nineteenth century, when domestic credit demand increased with industrialization and the building of railroads, and for a time after World War I. The excess of domestic savings was largely a result of financially sound governments in the cantons and towns and was in marked contrast to the large financing needs of many other European governments, which resulted from continuous engagements in war. The financial performance of both the Swiss governments and the private sector was based on several factors. First, the country maintained political neutrality and thereby did not incur large war expenses. Neutrality was a consequence of the multiconfessional and multilingual character of the Confederation, the strategic location in the center of Europe, and the small size of the country.2 Second, Switzerland was able to maintain trade with the belligerent countries and also benefited, on a large scale, from income earned from Swiss military service abroad, through treaties concluded with foreign sovereigns. Finally, in the early stage of industrialization, Swiss exports of cotton and silk products prospered because of little competition from abroad.

Historical Developments

Switzerland has a long tradition of capital exports. As domestic savings exceeded domestic spending, Swiss financiers and governments were already actively engaged in international finance in the eighteenth century. Net capital exports continued into the twentieth century, except during periods of the nineteenth century, when domestic credit demand increased with industrialization and the building of railroads, and for a time after World War I. The excess of domestic savings was largely a result of financially sound governments in the cantons and towns and was in marked contrast to the large financing needs of many other European governments, which resulted from continuous engagements in war. The financial performance of both the Swiss governments and the private sector was based on several factors. First, the country maintained political neutrality and thereby did not incur large war expenses. Neutrality was a consequence of the multiconfessional and multilingual character of the Confederation, the strategic location in the center of Europe, and the small size of the country.2 Second, Switzerland was able to maintain trade with the belligerent countries and also benefited, on a large scale, from income earned from Swiss military service abroad, through treaties concluded with foreign sovereigns. Finally, in the early stage of industrialization, Swiss exports of cotton and silk products prospered because of little competition from abroad.

Although Switzerland had exported capital for centuries, it was not until the twentieth century that it became a “safe haven” for foreign funds and began to intermediate between foreign savings and credit demand. After World War I, the currencies in Austria and Germany collapsed and the financial systems were in disarray. Switzerland, having avoided hyperinflation and having been less affected by political unrest than other European countries, became attractive as a safe depository for funds during the 1920s and the 1930s, and Swiss banks received deposits on a massive scale, mainly from Germany. A new Banking Law passed in 1934, to protect depositors during the worldwide banking crisis of the 1930s, created problems for Switzerland not only with Germany during World War II but also with the United States after the war. A side product of the law was rules on bank secrecy, which prevented banks from providing information on bank accounts to outsiders. These rules precluded Switzerland from acceding to the demands of the U.S. Government to have German assets held in Swiss bank accounts and in other placements confiscated for war reparations. Despite substantial political pressure, the Swiss Government did not succumb to the demands but rather agreed to a compromise whereby only part of the German assets in Switzerland would be confiscated for war reparations.3

Switzerland’s ability to preserve a relatively stable and strong currency increased the attractiveness of the Swiss banking system. Only once in the period from the end of World War I to 1971 was the Swiss franc devalued (in 1936). Switzerland also maintained a very low rate of inflation by international standards. During the 1950s, the increase in consumer prices averaged 1 percent a year. With the strong expansion in economic activity, prices accelerated to an annual rate of 3 percent during the 1960s and 4½–5 percent in the period 1970–85, closely following the rate of inflation in the Federal Republic of Germany, but inflation was still low compared with other industrial countries (Chart 1).

Chart 1.
Chart 1.

Switzerland: Economic Indicators

Source: International Monetary Fund, Data Fund.1 Compared with the same period of the preceding year.2 An increase (decrease) in the index indicates appreciation (depreciation) of the Swiss franc.

Since the early 1960s, international financial transactions have expanded strongly, with the convertibility of major currencies and liberalization of capital movements. When monetary conditions at home and abroad differed considerably, Switzerland experienced substantial inflows of foreign capital which exerted an upward pressure on the Swiss franc. During political upheavals abroad, the neutrality of Switzerland and its bank secrecy also played a role in attracting capital inflows. This was the case, for example, when Egypt’s accounts in the United Kingdom and in the United States were temporarily frozen after the Suez crisis and again in the wake of the first major oil price increase in 1974 and also during the political events in the Islamic Republic of Iran in the late 1970s. Despite several attempts to discourage capital inflows, the monetary authorities frequently had difficulty in controlling domestic liquidity without allowing a sharp appreciation of the Swiss franc (Section V).

Since the early 1980s, however, international capital flows have not seriously conflicted with domestic policy aims. This is possibly explained by the sharp tightening in monetary policy in the United States and in other countries, which permitted the Swiss authorities to pursue a monetary policy aimed at securing price stability without threatening external competitiveness (Charts 2 and 3). The high return on U.S. dollar and other foreign exchange assets is possibly also the explanation why the international debt crisis in the early 1980s led to an increase in foreign exchange denominated deposits with Swiss banks (especially fiduciary deposits) rather than Swiss franc deposits, thereby leaving the exchange rate unaffected (Section V).

Chart 2.
Chart 2.

Nominal and Real Short-Term Interest Rates

(In percent)

Sources: International Monetary Fund, Data Fund; and staff calculations.1For the Federal Republic of Germany, three-month interbank rates; for Switzerland, three-month deposit rates with the big banks; for the United States, three-month treasury bills.2 Deflated by the increase in the consumer price index in a month compared with the same period of the preceding year.
Chart 3.
Chart 3.

Nominal and Real Long-Term Interest Rates

(In percent)

Sources: International Monetary Fund, Data Fund; and staff calculations.1Public bond yields.2Deflated by the increase in the consumer price index in a month compared with the same period of the preceding year.

Conditions for Development as an International Financial Center

The history of Switzerland illustrates some of the factors which have been important for the development of its financial center. Because of its small economy, it is not a natural center for international trade and finance as are the large industrial countries (e.g., the United Kingdom and the United States). Nor has its Government promoted it through the creation of offshore facilities or special tax incentives or bank supervision as have the governments of other small economies (e.g., the Cayman Islands, Hong Kong, and Singapore). Rather, it has been a combination of fundamental political and economic factors, such as high economic growth, low inflation, external surpluses, sound government finances, political neutrality, bank secrecy, and a universal banking system, that has established confidence in its financial markets. None of these factors is unique to Switzerland. But few countries have, to the same extent, experienced so many of these conditions and maintained them over a long span of years.

Switzerland’s geographic position, in the heart of Europe, also played an important role in its development as a financial center. It was no coincidence that the first Swiss banking centers emerged in Geneva and Basle close to France and the Federal Republic of Germany. In addition, the use of three main European languages (French, German, and Italian) has also facilitated international banking. The hard-working mentality of the Swiss people is no less a factor—working hours in Switzerland continue to be high by comparison with other industrial countries.

Although a surplus on the external current account is not a necessary condition for a country to become an international financial center, it certainly promotes it. Swiss capital exports developed because domestic savings exceeded domestic needs. Switzerland continues to have a high savings propensity compared with other industrial countries, such as the Federal Republic of Germany, the United Kingdom, and the United States. During the last two decades, both the gross and net savings ratios have been exceeded only by Japan’s and have been substantially above the ratios of Germany, the United Kingdom, and the United States (Chart 4). Despite the relatively small size of the Swiss economy, among industrial countries in 1985, the current account surplus of Switzerland (US$4½ billion) was exceeded only by that of Japan (US$49½ billion), Germany (US$13 billion), and the Netherlands (US$5 billion). During the fixed exchange rate system that prevailed until 1973, current account surpluses and capital inflows resulted in massive exchange rate intervention by the Swiss National Bank, which led to a strong official reserve position of Switzerland. The valuation of gold plays an important role for the ranking of countries. With gold valued at SDR 35 an ounce in all countries, official reserves of Switzerland (SDR 18½ billion) were the sixth largest recorded in any country by the Fund at the end of 1985. But with gold valued at market value in all countries, official reserves of Switzerland (SDR 42 billion) were exceeded only by those of the United States (SDR 111 billion), Germany (SDR 70 billion), and France (SDR 50 billion).4

Chart 4.
Chart 4.

Gross and Net Savings Ratios1

Source: Organization for Economic Cooperation and Development, National Accounts Statistics.1Net savings equal gross savings less depreciation.

The existence of a universal banking system in Switzerland has given its banks a competitive advantage over countries in which specialized banking has prevailed. The federal structure of the country has made it important that banks in every canton and municipality be able to perform all kinds of banking transactions. The principle of universality was adopted in the Swiss Banking Law of 1934 at a time when a worldwide bank crisis induced other countries to impose restrictions on banking activity. For example, the 1933 Banking Act in the United States separated commercial banks from investment banks. In Europe, the Banking Law of 1935 introduced in Belgium prohibited banks from acting as both deposit banks and holding companies; in Italy, the Banking Law of 1936 drew a distinction between short-term and long-term credit institutions. In addition to Switzerland, universal banking systems exist in Denmark, the Federal Republic of Germany, Luxembourg, and the Netherlands.

The financial markets in Switzerland have benefited from the existence of bank secrecy. Bank secrecy, which protects banks’ clients from misuse of confidential information relating to their financial transactions, is not unique to Switzerland. But in Switzerland, it is more protective than in most other countries.5 It differs in two major aspects. First, the Banking Law prescribes severe penalties for breach of bank secrecy.6 Just as with violations of official secrecy, breach of banking secrecy is prosecuted ex officio by law; while violations of other professional secrecies (e.g., medical doctors, attorneys, and priests) are prosecuted only upon request of the injured party. In most other countries, bank secrecy is protected only by civil law; in a few cases (such as Austria, France, and the Netherlands), where breaches of bank secrecy are also prosecuted under criminal law, softer sanctions apply and prosecution is not ex officio.

Second, although banks are in certain cases obliged to provide information to the public authorities on clients’ accounts, such requirement applies only to cases where criminal acts as defined under Swiss law are being investigated. For violations of domestic or foreign fiscal and foreign exchange laws, bank secrecy can be lifted and international judicial assistance granted under Swiss law only when fraud is involved. This is not possible for tax evasion which, although subject to administrative sanctions, is not prosecuted at criminal level in Switzerland. The legal treatment of tax evasion, however, is to be interpreted in connection with the 35 percent witholding tax on capital earnings, which limits the scope for tax evasion.

Bank secrecy and the rules for providing information to the authorities in case of criminal offense or inheritance apply equally to “numbered” and other accounts. Numbered accounts, however, differ from other accounts in that the identity of the owner is known to fewer people within the bank. It is estimated that less than 10 percent of Swiss banking accounts are numbered accounts.7 They are not a feature specific to the Swiss banking system but are used also, for example, in Austria, Belgium, the Cayman Islands, France, Hong Kong, Luxembourg, and Singapore. In some of these banking systems, numbered accounts are truly anonymous in the sense that the identity of the account holder is not disclosed to the bank.

In recent years, Swiss bank secrecy has come under attack from abroad in connection with “insider trading” violations. The Securities and Exchange Commission (SEC) in the United States has demanded information from Swiss banks about their customers in order to investigate cases of insider trading. According to present Swiss law, however, insider trading is not a criminal offense. Therefore, bank secrecy cannot be lifted and judicial assistance granted to foreign authorities. In retaliation, the SEC threatened to bar certain Swiss banks and their customers from the U.S. securities market. Consequently, in 1982 a compromise was reached, whereby the Swiss banks signed a Convention (“Convention XVI”) that specified certain procedures to be followed. According to the Convention, a request by the SEC for information on a bank’s customer in connection with insider trading investigations will be considered by a specially appointed Commission comprising Swiss citizens who are independent of banks. The banks will provide information to the Commission on the customer’s transactions, and if the case fulfills certain criteria, information will be forwarded to the SEC with the possibility of blocking the accounts in question. Convention XVI is meant to be only a transitory solution. On May 1, 1985, a proposal was made by the Swiss Federal Government to Parliament concerning an amendment of the criminal law according to which insider trading would become a criminal offense. Such an amendment would enable the Swiss authorities to grant judicial assistance to foreign countries provided that the conditions mentioned in the bilateral treaties or the Federal Law concerning International Mutual Assistance in Criminal Matters are met.

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