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In 2002, when Germany, France, Italy and Austria adopted the Euro currency, the exchange rate with Switzerland was 1.60 CHF (Swiss Franc) = 1€ (Euro). The prices and salaries in Switzerland were slightly higher than in its neighbours, but reasonably so.

Since then the Swiss franc has been more and more valuable and today reaches the rate of 1.04 CHF = 1€. The prices and salaries in Switzerland are over two times higher than in the neighbouring countries.

Depending on the way of computing this (price of food, price of housing, prices of insurances, lower range salaries or median salaries), the purchasing power parity exchange rate should be between 1.80 CHF and 2.50 CHF for 1€.

Since the exchange rate is so biased, in a free market it should be easy for Swiss people to buy stuff in neighbouring countries for cheap prices, and re-sell them at a more competitive prices in Switzerland. That would have the effect of lowering prices, creating deflation, and equalizing prices with neighbouring countries.

So my question is : Why doesn't such a regulation of the exchange rate happen? What actually happens is the opposite : The price bias becomes wider and wider, leading to a ridiculous situation where for example a piece of bread costs over 2 times more in one side of the border than on the other side, with all the side issues this causes.

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  • $\begingroup$ On a side note, the journals and the economists constantly repeats the same it's because we're so the best and that our economy function so much better propaganda, but for some reason I don't quite believe it. $\endgroup$ – Bregalad Apr 10 '15 at 13:08
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Swiss people do shop outside of their border, exactly as you think they should:

"Even the Swiss are staying away from their local stores and products—they would rather buy from neighbouring countries and take advantage of the situation. Switzerland is bound by Germany, France and Italy, and most of its big cities are located just at the border. It is relatively easy for Swiss residents to do their shopping elsewhere and get high value for their money, but it also means that the Swiss supermarkets and downtown stores have lost huge shares of the consumer market." (Source: http://www.forbes.com/sites/realspin/2015/03/30/currency-wars-the-swiss-case/)

Currency is like any other commodity in the sense that its price (i.e. the exchange rate) is higher when demand is high relative to supply. For the exchange rate to remain high even when large sections of the population are selling Francs to get the Euros they need to shop in Germany, it must be that somebody else is buying up a lot of Francs and thus providing a large source of demand for the currency.

That someone else appears to be foreign investors, who are desperate to put their money into a safe and stable environment. In 2013, investors put 101bn Francs more into Switzerland than they took out (an amount equal to 22% of Switzerland's GDP!). In 2014, this figure fell dramatically, but there was still a net inflow equating to 7.5% of GDP.

On top of investors putting money into the country, Swiss companies are also net exporters. In 2013, Switzerland exported 65bn CHF more of goods and services than they imported–15% of GDP. Every time a Swiss company sells a product to someone in the US, dollars need to be changed into Francs (either because the Swiss company sets prices in Francs, or because it gets paid in dollars and then wants to repatriate the money in domestic currency).

These two sources of money flowing into Switzerland (respectively known as the capital account and the current account, and collectively known as the balance of payments) provide a robust source of demand for Swiss Francs and ensure that the value of the currency remains high.

The source for the numbers quoted above is here: http://snbchf.com/euro-zone-swiss-macro/swiss-balance-payments-2014/

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  • $\begingroup$ So if I understand well, basically a few ultra-rich foreign investors are completely screwing up the laws of free market between the country and it's neighbours ?! $\endgroup$ – Bregalad Apr 10 '15 at 14:15
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    $\begingroup$ No. Aside from the fact that there are no "laws of the free market", it's a lot of different investors (mostly in the eurozone), who have been moving their cash out of the eurozone and into Swiss francs because they're worried that euros will lose value. Because Switzerland has a relatively small economy, it's easy for their exchange rate to be affected by investment flows from larger economies, like the eurozone area. It's exactly the result one might expect in a free market. $\endgroup$ – dismalscience Apr 10 '15 at 14:56
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    $\begingroup$ @Bregalad Market prices depend on the supply and demand for goods and the supply of money is the underlying issue. It's a slow system and financial flows tend to dominate. One thing that a lot of commentators seem to have missed is that Switzerland has become a source of lending. So I'm not sure how much is really foreign investors versus the long term flows back into Switzerland of loan repayments on their loans (roughly 2x or more what was lent). $\endgroup$ – Lumi Apr 10 '15 at 16:29
  • $\begingroup$ Mmh, so they're afraid that the € looses value, which it does, so they use Swiss Francs and it prevents it to loose value as well, when it should, hironically. Isn't that a positive-feedback process (i.e. it makes the € loose even more value, and the CHF to value even more)? So this means that will not change unless there's a huge change on the Euro side? Also, we have the largest economy of any landlocked country in the world, but still not much compared to Eurozone it's true. $\endgroup$ – Bregalad Apr 10 '15 at 21:38
  • $\begingroup$ Why doesn't they use Brittish Pounds, Swedish/Danish/Czech Crowns, Polish Zlotty, etc... as well as an escape to the € loosing value? $\endgroup$ – Bregalad Apr 10 '15 at 21:40

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