There are a few things we think we know for sure about Switzerland. It makes nice chocolate and reliable watches. It's expensive and a little on the dull side. And it has the most formidable banking industry in the world.
For a hundred years or more, Switzerland and banking have been just about synonymous. Countless thrillers feature a scene where a shady deal gets done at some discreet Zurich or Geneva office, where the secrecy of the transaction can be considered absolute. If London has a serious rival in Europe as a finance centre, it's Switzerland rather than Frankfurt or Paris. But now the Swiss finance sector is looking challenged in a way that it hasn't been for a generation or more.
While most of the global banking industry is roaring back from the credit crunch, and paying itself bigger bonuses than ever, the big Swiss banks seem stuck in the doldrums. Credit Suisse came through the credit crunch better than most investment banks. It didn't need a rescue. But it doesn't seem to have recovered its old panache as the global economy grows stronger. Its results earlier this month disappointed the market. It cut its 2010 dividend 35% last week and lowered its target for return on equity in the next three to five years to around 15% from more than 18%. It seems to have accepted it will be permanently less profitable.
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UBS doesn't look any happier either. The bank only just scraped its way through the credit crunch. Its fourth-quarter pre-tax profit from investment banking slumped 75% to 75 million Swiss francs. The bonus pool was cut by 10% to reflect disappointing figures. Its CEO, Oswald Grbel, admitted that the results were "clearly not yet satisfactory".
Meanwhile, Julius Baer, one of the oldest names in Swiss banking, has been hit by an embarrassing scandal. A disaffected former employee has threatened to publish the names of thousands of its clients on WikiLeaks. The whistle-blower has been arrested for breaking Switzerland's bank secrecy laws, and it remains to be seen whether the data is ever released. Even so, it is not the kind of thing that will make the well-heeled clients of Swiss banks feel very confident.
Of course, every industry goes through bad spells. The problem for the Swiss banking sector is that it faces two huge challenges that may make it less competitive on a permanent basis.
The first is that secrecy is dead. The European Union has been chipping away for years at Switzerland's tradition of confidential, numbered bank accounts. Neighbouring countries suspected they were losing billions in taxes on money salted away in Swiss accounts and they were probably right. German businessmen used to drive over the border at weekends with the boot of their BMW full of deutschemarks to deposit in Switzerland. The Swiss have been forced to end all of that. The internet is finishing the job. In an era of hyper-transparency, it is impossible for Swiss banks to maintain the old traditions of client confidentiality. They may succeed in locking up the latest whistle-blower. But it is simply too easy for a disgruntled employee to post thousands of account details on a website such as WikiLeaks. If the US government can't stop sensitive military data being published on the web, a few Swiss banks can't hope to.
Yet secrecy is often what the banks' clients were buying. The banks might blather on about how they offered excellent service and in-depth, personalised investment advice. But usually what the customers wanted was to keep their money hidden from the taxman, their wives, or their business partners. Secrecy was the main reason people went to Switzerland, and if its banks can't keep their accounts under wraps, you may as well go elsewhere.
Next, the giant Swiss banks, like the British ones, have grown too big for their home country. The Swiss central bank knows that both UBS and Credit Suisse have assets worth many times the country's GDP. If both banks ran into trouble the way that Royal Bank of Scotland did over here, they would quite literally bankrupt the country.
In response, the Swiss have introduced the toughest capital rules in the world. Swiss banks will have to maintain capital ratios at double the levels agreed under the Basel rules. In effect, that means the money the banks use as their raw material will be twice as expensive as it will be for British, American or German banks. In a competitive market, that is a huge handicap.
Swiss banking was a great model. Lots of people deposited tons of money in the country. They only really cared about discretion. The banks could use all that cash as essentially free capital, which would bulk up their balance sheets, and allow them to go out and finance deals around the world. It was a fantastic way to make a lot of money. Now it appears that the model is broken. The accounts aren't secret and the capital isn't cheap. Unlikely though it seems, in 20 or 30 years' time we might not associate Switzerland with the banking industry anymore. Still, there's always the chocolate and the watch industry.
Matthew Lynn is a columnist for Bloomberg, and writes weekly commentary syndicated in papers such as the Daily Telegraph, Die Welt, the Sydney Morning Herald, the South China Morning Post and the Miami Herald. He is also an associate editor of Spectator Business, and a regular contributor to The Spectator. Before that, he worked for the business section of the Sunday Times for ten years.
He has written books on finance and financial topics, including Bust: Greece, The Euro and The Sovereign Debt Crisis and The Long Depression: The Slump of 2008 to 2031. Matthew is also the author of the Death Force series of military thrillers and the founder of Lume Books, an independent publisher.
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