Switzerland has always been among the countries with the highest gold reserves. Despite reducing its reserves in the past two decades, Switzerland still has the highest gold holdings per capita and its currency, the Swiss franc, has been among the top-performing currencies in recent years. The strength of the currency has many reasons, but despite the vast amount of gold reserves that Switzerland owns, even the Swiss franc is just a paper (fiat) currency.
In a previous article, I wrote about the many factors influencing the value of currencies. Today, all currencies are basically fiat currencies, so their relative value is determined by factors such as political stability and competitiveness of the domestic economy, just to name a few. However, in a time like today when many big governments are dealing with record amounts of debt, the incentive to “print” money is certainly a lot bigger.
The world’s two largest reserve currencies, the U.S. dollar and the euro, are currently in a process of structural devaluation, which has caused these currencies to fall significantly in value. More and more people in the U.S. and Europe would want to have a new type of gold standard, which would protect the purchasing power of their savings and incomes. This is very understandable, since a forced currency devaluation acts like an extra tax on every citizen.
In light of this, it seems surprising that in a country like Switzerland that has such a strong currency, a parliament initiative has been made that seeks to set up a new Swiss gold franc as a dual currency system. I personally think a return to a worldwide gold standard is unrealistic, but when I heard about the gold franc idea, I thought that would be a very interesting alternative. That’s why I would like to tell you how the gold franc dual currency system would work.
The plan is that private institutes/banks, with the permission from the Swiss government, would issue gold coins, so-called gold francs. Each coin would contain a core with a fixed amount of real physical gold; the rest of the coin would be made from a cheaper type of metal. For example, a 500 Swiss franc coin would contain 50 grams of real gold. With today’s gold prices, this would be worth approximately 2,000 Swiss francs (fiat currency).
The plan would be to also issue coins with smaller nominal values that have a lower gold content. The purpose of this would be to give everybody a cheap and easy way to purchase gold. Also, these coins would be easily tradable. The idea is not to have these new coins introduced as a replacement of the existing coins but as an alternative to the fiat currency Swiss franc, therefore introducing a dual currency system.
Another interesting point is that these gold coins would need to be issued by private firms/banks that have a license from the Swiss government. The gold needed to produce these coins would need to be bought on the open market by these private issuers.
What is also interesting about the idea is that this new gold currency would be independent from the Swiss National Bank. The reason for this is that the Swiss National Bank has recently come under a lot of pressure because of its investment strategy. Switzerland’s economy is heavily dependent on exports, which is why the recent Swiss franc strength is such a heavy burden for the domestic economy. In an attempt to weaken the currency and try to stop further appreciation, the Swiss National Bank sold huge amounts of its own currency against the euro. This strategy is highly problematic and led to an intense political discussion of what the role of a central bank should really be. But one thing is already clear, by investing heavily in the euro, the Swiss National Bank has accumulated giant losses. And with the outlook for the euro being more uncertain than ever, the chances that the central bank can recuperate these losses are very small.
The Swiss idea of introducing a gold currency comes at a time when more and more people are calling for a return to the gold standard, which would be a radical change from today’s system of fiat currencies. In my view and despite having some sympathy for this idea, this is a very unlikely scenario today. The old gold standard was brought down by politicians, and I don’t think politicians have any interest in reintroducing the gold standard. However, I think ideas like the Swiss gold currency system show that gold and other precious metals are becoming a much more important investment class, and many investors today already look at gold as a currency. Also, the fact that central banks worldwide have recently become net buyers of gold shows that there is renewed interest for precious metals.
Despite the fact that there has been a lot written about precious metals recently and the fact that these metals have shown such a strong performance, I think we are only in the early phase of a long-term upward trend for these metals.
I think it would really be interesting to have a gold franc in Switzerland that could be used as a legal tender, but I have my doubts that we will ever get it. So many people worldwide will seek to invest money in assets that are truly protecting the purchasing power of their money, and this will continue to create an enormous demand for precious metals. Ben Bernanke was recently questioned by Congress about the role of gold and why people buy gold. His answer was that they buy it as protection against tail risk: really, really bad outcomes. Well, Mr. Bernanke, maybe the chances of getting these really bad outcomes are bigger that what you may think.