
Can you TWINT it?
TWINT, Switzerland's digital payment app, has more than five million users and is a household name, but the path to profitability has been extremely difficult. In the second IMD Nordic Executive Dialogue,...
by Peter Nathanial, Ludo Van der Heyden, Salvatore Cantale Published 19 July 2024 in Finance • 14 min read
The Swiss Federal Government recently issued its report on banking stability following the collapse of Credit Suisse, and the government’s intervention that led to its acquisition by arch-rival UBS.
The purpose of the report was clear – to ensure the stability of the Swiss Financial Centre (SFC), and, as stated in the opening, “to greatly increase the recoverability and resolvability of a Systemically Important Bank (SIB) should a crisis nevertheless occur.”
The final paragraph is also worth noting, as it confirms the aim of recovering a damaged international position: “By implementing these measures at legislative and ordinance level, Switzerland will strengthen not only its own financial and banking center and thus its status as a business location, but also the stability of the global financial system.”
The lengthy report – 37 measures and 209 pages – highlights some important issues. The proposed changes reflect a commitment to align the Swiss banking sector with global regulatory frameworks which, if swiftly adopted, ought to positively impact the SFC by enhancing its stability, resilience, and attractiveness as a business location.
It addresses issues related to domestically important banks which include PostFinance, Raiffeisen Bank, and Zürcher Kantonalbank (ZKB). Little is said about the rest of the Swiss banking sector, which international authorities put in their third category, that of systemically not-important banks. These include all the other cantonal and local banks as well as wealth and asset managers, such as Julius Baer, Lombard Odier, Pictet, and Vontobel. Many foreign banks also operate in the country.
One of the “secret sauces” of Switzerland is indeed its high banking density, allowing local entrepreneurs and corporations, as well as individual customers, access to credit. This supports Switzerland’s remarkable economic performance in the context of the ever-increasing valuation of Swiss currency. This outright miracle is often underestimated, though overseen with great attention by the Swiss National Bank and federal authorities.
The Raiffeisen Group, with its federal structure consisting of 219 autonomous cooperative banks, fully fits this picture. Its latest governance issues concerned fraud and embezzlement by its CEO. In such a federal structure, the issues that could be problematic cannot stem from one of the 291 banks (any bank could be quickly taken over by the others), but indeed at the corporate top, where things are more opaque. Supervising the corporate top is indeed the responsibility of Raiffeisen’s board of directors and the Swiss supervisory authorities. Both failed in this regard.
Herein lies the “big leap” and the key assumption made by the Swiss Federal Government report: its intended stakeholders are the international community, wealthy owners, regulators, foreign governments, institutions, or foreigners eager to put part of their wealth or investment into Switzerland. That is a model of the past, induced by bank secrecy, which was Switzerland’s key banking product. The model also led to excessive wealth stored in Swiss banks, as well as to the development of its wealth management and asset management competencies – all good things.
But this development came along with a forceful venture into international investment banking, which should never have been part of its core mission, and for which the Raiffeisen Group bank and its board were poorly equipped. It is also where Credit Suisse and UBS lost their soul, one recently losing its life as an autonomous bank, the other, UBS, having to be rescued by the Swiss people soon after the global financial crisis of 2008. It is now clear that this banking model has run its fateful course.
Why did Switzerland ignore the lessons of the global financial crisis?
One of the Swiss Federal Government’s report’s main points is a surprising admission: Switzerland needs to catch up with the considerable upgrade of supervisory capabilities that emerged internationally after the disastrous global financial crash. That recognition led to a major upgrade in the governance of the global financial system.
The admission that these safeguards are not in place in Switzerland is commendable, albeit frightening, given that the country is recognized for its fiscal prudence (correct) and conservative nature (false when it comes to the governance of its banks). While most of the world has accepted that self-regulation by the banking sector is unwise and creates excessive risks, the report confirms that Switzerland had continued to trust self-regulation in banking and that its authorities did not realize the vulnerabilities of their governance regime, nor the importance of Swiss banking stability for the global financial system.
Neither the G20 nor the G7 insisted sufficiently strongly on Switzerland’s implementation, at a minimum, of the same requirements for a level playing field with the EU. The Credit Suisse failure exposed the latent risks that existed both in Switzerland and in the global system.
The report thus explains why the Credit Suisse crisis happened: because self-regulation was still largely at play. Given the density of its banking network, it is not far-fetched to think that Switzerland ought to be good at supervising its domestic banks. Practice makes perfect, particularly considering the country’s fiscal prudence. The Credit Suisse debacle confirms that another property of Swiss culture – conservatism – was, in fact, not at play in Swiss banking.
Most stakeholders will thus find little joy in reading the Swiss Federal Government report, which argues that Swiss banking supervision is full of holes and vulnerabilities that need to be plugged.
The report, with its proposals and recommendations, will bring Switzerland into line with the global banking order. Most, if not all, of the proposed changes were already in effect or were put into effect in the EU after the global financial crisis. The good news is that the Credit Suisse crisis finally spurred Swiss authorities to review a domestic banking governance system reliant on trust, and, through the federal government’s report, commits to a serious update. That is the positive side of the story. But the report also highlights that the Swiss authorities simply did not have the toolkit or the authority to intervene earlier in the governance of Credit Suisse, or that of any other bank.
Why did Switzerland ignore the lessons of the global financial crisis? The answer likely has roots in the decentralized and trusting Swiss culture and its accompanying aversion to delegating too much power to the federal center.
Another explanation might be that Switzerland always considered itself apart from a world it always saw as foreign and dangerous. Shielding itself in a position of political neutrality allows the country to benefit commercially and financially from that world, without compromising its self-righteous, protestant ethics.
It is also likely that the Swiss government, at the time, was more focused on transitioning away from its bank secrecy regulations and on containing the breach into that regulation brought by its 2013 Foreign Account Tax Compliance Act (FATCA) agreement with the US. The agreement means that Swiss financial institutions share account details directly with the US tax authority, provided they have the consent of the involved US clients.
Meanwhile, the Swiss government’s bailout of UBS in 2008 after the collapse of Lehman Brothers triggered a global financial meltdown and must have loomed large. Finally, the long and fateful excursion by UBS and Credit Suisse into the world of US investment banking may have contributed to this timidity, too, as it is hard to fathom how Swiss authorities could supervise US activities which they were distant from – and unfamiliar with.
Now, however, the Swiss Federal Government recommends exactly what we suggested they do in a media article published in late 2023: “In fact, FINMA could be seen as a leader in the supervisory world by proposing transparent standards, not dissimilar to those required by the EU’s Single Supervisory Mechanism (SSM) for bank boards of directors about the composition, credentials, and no-conflicts of board members, by not appointing anyone that has worked for UBS or CS on its own board. This would help to avoid either a “pro-UBS” bias or even a perception of such bias. It is a step that could be taken immediately. And shouldn’t Swiss authorities now be looking at rebranding their own dedicated agencies, immediately giving them greater enforcement powers and discretion to supervise deposit-taking institutions? “
The questions now are whether the government’s recommendations will be implemented, and when.
The fact that UBS has absorbed Credit Suisse, becoming an even larger bank, has only added to this concern.
One danger would be addressing the gaps in domestic bank governance only, ignoring the more globally important UBS. The report does not tackle Switzerland’s “too big to fail” (TBTF) problem, which mainly relates to UBS. UBS is now vastly different from the other banks in the SFC and is probably an exception. The fact that UBS has absorbed Credit Suisse, becoming an even larger bank, has only added to this concern. There is no other bank in Switzerland that is now large enough to bail out UBS, should it fall into distress.
Furthermore, it is hard to imagine how Swiss authorities will be able to adequately supervise UBS. The government report fails to recognize – and in fact suggests the opposite – that Switzerland has two banking systems: the domestic, decentralized one (and UBS’s Swiss banking operations could fall in that bucket), and the international, centralized one, consisting of UBS as a whole entity. The report addresses the supervision of domestic banking but remains silent on the supervision of its sole globally significant lender. The trend seems clear: Volksbank was acquired by Credit Suisse in 1993; Swiss Banking Corporation merged with UBS in 1998; UBS, having been rescued by the state in 2008, absorbed Credit Suisse in 2023. How long will it be before the last remaining truly international bank in Switzerland UBS, meets a similar fate?
However, the government report suggests that its supervisory regime is failing. If it is, why wait, as the report states, for the result of the parliamentary inquiry into the Credit Suisse rescue, which is solely focused on UBS and deals with responsibilities for past events?
Instead, it may have been better to issue two distinct reports: one on how to supervise UBS going forward and a second one – the one that has been issued – that forcefully addresses supervisory vulnerabilities and strengthens the governance of the domestic banking sector. It may also have been better to admit that these issues are, in today’s turbulent context, so pressing that answers need to be implemented without waiting for the outcome of the parliamentary inquiry.
What is the business model for UBS going forward, and once that has been determined, how to supervise UBS?
In sum, the Swiss Federal authorities are well advised to distinguish three questions:
These three questions are interrelated. Yet, it would be an error to force some of the answers to the second question about UBS’s supervision onto the entire domestic system. That would risk imposing constraints on, and reducing the competitiveness of, the Swiss banking sector and ultimately the Swiss economy.
The issues addressed by the government report concern deposit protection, recovery, resolution, and corporate governance. All the proposed changes aim to strengthen the overall financial stability of Switzerland. This, undoubtedly, is needed to maintain the country’s reputation as a reliable and innovative financial hub. The measures aim to mitigate risks for the Swiss financial system and safeguard the economically crucial functions played by the main domestic banks, which are crucial components of the SFC.
However, these issues should not be confounded with the question of how to supervise UBS, which is a completely different question. Being a globally significant bank, with an asset size that is a multiple of Swiss GDP, its supervision will necessarily be of a different kind. Confounding these two questions would put all Swiss banking at risk.
Finally, the report makes no claim on the future shape and structure of the SFC, which remains an unanswered question.
Addressing these potential challenges in a timely manner will be critical to the successful implementation of the proposed changes and to ensure that the SFC continues to thrive as a stable, competitive, attractive financial hub.
The proposed changes in the government’s report aim to bolster the stability and resilience of the SFC. However, there are pressing challenges that must be addressed promptly. It is crucial to strike a regulatory balance that promotes stability without overly burdening Swiss financial institutions, as this could hinder their competitiveness. The requirements placed on UBS should not unduly constrain its domestic banks.
Another challenge is the necessity for coordinated efforts among regulatory bodies, financial institutions, and global stakeholders. The FATCA agreement with the US highlighted this issue, and the takeover of Credit Suisse by UBS affirmed Switzerland’s lag in this area. Achieving compliance with international standards while preserving Swiss financial distinctiveness demands strong collaboration and communication with external entities. It is no small task, and it should not compromise the quality or dynamism of the Swiss banking sector.
Furthermore, the proposed changes pose implementation challenges, including the need for adequate resources, expertise, and infrastructure to effectively execute the proposed measures. It will be essential to provide support and guidance to Swiss financial institutions to facilitate the implementation process and ensure compliance with the new regulatory requirements.
Addressing these potential challenges in a timely manner will be critical to the successful implementation of the proposed changes and to ensure that the SFC continues to thrive as a stable, competitive, and attractive financial hub.
This change process should leverage some of Switzerland’s unique characteristics, such as its tradition of neutrality and stability, as well as its role as a global wealth management center, plus its emphasis on asset management and long-standing tradition of financial services excellence. Managing other people’s money from around the world in Switzerland is different from conducting banking activities and taking risks globally. The conservative nature of Switzerland should be an asset here, and its bank governance system needs to evidence this cultural trait as well.
Any solution would also have to involve people who have the competence to supervise globally important lenders.
That is the major question that the report leaves unanswered. The takeover of Credit Suisse is being completed. It is a fact. The question of responsibilities is being investigated, as it should, but that concerns the past – and, we may add, can wait. What is pressing – particularly at a time of major geopolitical upheaval and regional conflicts that are moving to become global conflicts – is the structure and supervision of UBS.
A domestic solution here is hard to conceive of because only former UBS and Credit Suisse employees would have the competence to supervise UBS, that is if it is not already too big to be governed. Any solution would also have to involve people who have the competence to supervise globally important lenders. These people are either in the US Federal Reserve or at the European Central Bank. Switzerland can move ahead by putting together a special tripartite committee that is tasked to reassure the world and the Swiss people that UBS is appropriately and competently supervised.
That, of course, would be a departure for the Swiss: the country would give up part of its sovereignty to foreign players. But this already happened before with Swiss Banking Corporation’s investment banking foray that ended up in its merger with the (at the time) much more conservative UBS, and which ended up, only 10 years later, in UBS’s state bailout during the global financial crisis. These outcomes were disastrous. The big question, then, is whether Switzerland ought to have a globally important bank at all.
“A different path is for Switzerland to recognize that UBS’s fate is already sealed, with the understanding that it will eventually have to abandon the foray into global investment banking that was started when the Swiss Banking Corporation bought the US-based investment banks Dillon, Read & Co., Brinson Partners, and O’Connor & Associates.”
The above considerations confront Switzerland with a clear choice to be made concerning the degree of integration with the international banking order. A positive answer to that would require Switzerland to give up some of its supervisory sovereignty to maintain a globally important bank like UBS in Switzerland. That is not something that fits easily with the Swiss DNA, as the debate on the degree of integration with the EU has shown. It is the price that Switzerland will have to pay if it wishes to continue its presence in global investment banking.
A different path is for Switzerland to recognize that UBS’s fate is already sealed, with the understanding that it will eventually have to abandon the foray into global investment banking that was started when the Swiss Banking Corporation bought the US-based investment banks Dillon, Read & Co., Brinson Partners, and O’Connor & Associates. In that scenario, Switzerland will focus internationally on wealth and asset management, and return to what made Credit Suisse such a great and distinguished bank, namely investing in Switzerland and Swiss-based companies.
A third option is the current one, which amounts to trying to pursue both scenarios simultaneously. It is one that many people may find acceptable. It is also seductive as it does not force a clear choice. But it would lead Switzerland to defy economic logic. Industries are great precisely because they obey cluster logics that allow for cooperation as well as competition. It is hard to imagine that Swiss-based global firms would be well served by a single domestic investment bank. The Swiss industrial conglomerate ABB’s recent decision to withdraw its cash-management mandate from UBS in favor of Germany’s Deutsche Bank is a data point that validates such a conclusion.
Switzerland should secure its domestic banking system by adopting its own recommendations without delay. It should also use this moment to adapt the Swiss Financial Centre to build on the skillsets of Switzerland’s workforce in financial services and its nature of fiscal prudence. This may include the resizing and reshaping of its largest banks. A domestic banking system that manages cross-border wealth does not require a globally active, risk-taking institution to make it successful. Nor does Switzerland need to take on that risk and responsibility to fulfill its goals of excellence as a financial center for the next generation.
IMD Executive in Residence and former member of the Executive Committee of The Royal Bank of Scotland Group
Peter Nathanial is an IMD Executive in Residence and co-founder and co-Director of IMD’s Bank Governance Program. A Former Group Chief Risk Officer and member of the Executive Committee of The Royal Bank of Scotland Group, he is a Former Global Head of Risk Oversight at Citigroup.
IMD Distinguished Scholar & INSEAD Emeritus Chaired Professor in Corporate Governance
Ludo Van der Heyden became a Distinguished Scholar at IMD in September 2022, where, together with Professor Salvatore Cantale and Executive in Residence Peter Nathanial, he supports IMD’s developmental activities and programs in the banking sector, including the Bank Governance program. Ludo is the founding Academic Director of INSEAD’s Corporate Governance Centre (ICGC) and was co-Dean of INSEAD (1990-1995).
Professor of Finance at IMD
Salvatore Cantale is Professor of Finance at IMD. His major research and consulting interests are in value creation, valuation, and the way in which corporations structure liabilities and choose financing options. Additionally, he is interested in the relation between finance and leadership, and in the leadership role of the finance function. He directs the Finance for Boards, Business Finance, and the Strategic Finance programs as well as the Driving Sustainability from the Boardroom program and the newly designed Bank Governance program.
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