An economist explains the fundamental flaw at the heart of Switzerland’s revolutionary referendum on banking

A Switzerland fan waits before their Group A Euro 2008 soccer match against Portugal at St Jakob Park in Basel, June 15, 2008.

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A Switzerland fan waits before their Group A Euro 2008 soccer match against Portugal at St Jakob Park in Basel, June 15, 2008.
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Reuters/Stefan Wermuth

  • Martin Brown, a professor of banking at the University of St. Gallen, and former economist at the Swiss National Bank, explains the fatal flaw in the logic of Switzerland’s banking reform referendum.
  • “Most academic economists are very sceptical, not just about this vote, but about the whole campaign for monetary reform which goes in the direction of sovereign money,” Brown told Business Insider.
  • Swiss citizens will this weekend vote on an initiative called Vollgeld.
  • The initiative essentially boils down to moving consumer deposits off the balance sheets of high street banks, and holding them instead with the Swiss National Bank (SNB), Switzerland’s central bank.

LONDON – A Swiss referendum to overhaul the country’s financial system misunderstands how banks fail and won’t make them safer, according to a leading academic.

On Sunday, a referendum will be held asking Swiss citizens if they back the introduction of a concept known as the sovereign money initiative, proposed by a group called the Vollgeld Initiative.

Martin Brown, a professor of banking at the University of St. Gallen, said: “Most academic economists are very sceptical, not just about this vote, but about the whole campaign for monetary reform which goes in the direction of sovereign money,” in a phone interview.

But first, what is the Vollgeld Initiative? It boils down to moving consumer deposits off the balance sheets of high street banks, and holding them instead with the Swiss National Bank (SNB), Switzerland’s central bank.

In simple terms, Brown describes the referendum as being like using a safety deposit box in a bank to store your cash.

“Suppose you were to take all your cash and store it in a safety deposit box in a bank. The bank would be managing that for you, but it wouldn’t be on the bank’s balance sheet, it would be cash – which is a claim against the central bank,” he said.

“What sovereign money would do is basically the electronic version of that.”

Campaigners for the initiative say that implementing this change would make the financial system safer. As Brown explained: “The idea is that if you take demand deposits off the balance sheet of a bank, and have them as direct claims on the central bank, then those deposits will be safer.”

“And then because households and firms think they’re safer, there will be fewer bank runs, and the financial system will be more stable.”

This, however, is a fallacy, Brown told Business Insider over the phone, because it is simply not how financial crashes actually tend to start.

“This is a very strong argument if you believe that most of the financial crises that we have arise because depositors panic,” he said.

“That is not reality.”

“Our experiences and research tells us that panics are very uncommon, and most financial crises are driven by excessive risk taking by banks. Taking deposits off their balance sheets would not necessarily change that.”

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While this is the most compelling argument against the introduction of sovereign money, there are others, with Brown pointing to another supposed benefit which is flawed – the idea that such an initiative will remove the need for banks ever to be bailed out by taxpayers, something seen widely during the financial crisis.

“That argument doesn’t hold either,” Brown said.

“Looking at Switzerland in particular, we have five banks considered to be systemically important. The reason they’re considered to be systemically important is not because they’ve got lots of deposits, but because they’re very important for the credit markets – mortgages for example,” he said.

Brown then pointed to the example of PostFinance, a retail bank that is an arm of Switzerland’s national postal service. PostFinance, Brown says, is “important not because of its deposits, but because it’s extremely important for the payments system.”

A large proportion of Swiss citizens receive their wages through PostFinance accounts, and also make payments for things like bills through the bank.

Switzerland’s two biggest financial institutions, Credit Suisse and UBS, aren’t systemically important because of their deposits either. Brown noted that their importance comes from their role in the credit markets, and in settling securities transactions – both areas entirely removed from holding deposits.

“None of the key functions these banks perform, and for which they are considered systemically important, are related to having current accounts on their balance sheets,” Brown said.

“So taking those deposits off the balance sheet wouldn’t change how important these banks are systemically.”

Recent polls suggest that the vote will be fairly close, with one showing 45% against the proposal and 42% in favour.

Obviously that shows the initiative failing, but in the current political climate, where the likes of Brexit and President Trump’s election have confounded all polling, it cannot be ruled out that the Vollgeld Initiative will pass.