Price Elasticity of Demand for Swiss Banking Secrecy

When Secrecy Becomes a Luxury Good

Swiss bank secrecy had historically been treated as a public good rather than a financial service with a price tag attached. Although it was highly sought after, no one appeared to know its true cost. The demand was relatively insulated from any price consideration, as long as the right doors were knocked on to gain access.

The increase in the legal and reputational costs associated with offshore secrecy began around 2008. The changing economics of secrecy created an unusual natural experiment for measuring the effect of a sudden and large increase in the effective cost of secrecy on demand for the service. The results indicated that demand for secrecy is much more "elastic" than previously believed.

The increased cost associated with obtaining and maintaining secrecy began with the passage of the US Foreign Account Tax Compliance Act (FATCA) in 2010. This was followed by the OECD's Common Reporting Standard (CRS) in 2014. Compliance costs went up, the likelihood of being caught in violation of these laws increased, and penalties for failing to report offshore accounts were made more severe. The investigation of UBS by the US Department of Justice, which resulted in UBS paying $780 million and turning over about 4,500 names of their clients, represented the point at which the implicit cost of secrecy became an explicit one.

At its peak, around 2007, Swiss banks are believed to have held approximately $2.1 trillion of offshore wealth owned by clients from other countries. According to the Boston Consulting Group, in the early 2020s, the total amount of cross-border wealth booked in Switzerland had declined to less than $1.8 trillion, while global private wealth had grown significantly over the same time frame. The portion of total cross-border wealth that is booked in Switzerland declined from about 27% in 2008 to below 25% in 2022. This decrease, in light of a worldwide increase in wealth, is indicative of a considerable reduction in the demand for cross-border wealth due to increasing effective prices, which represents a textbook response predicted by price elasticity theory.

Where did the Capital Go, and How Does This Correlate with Elasticity?

As per price elasticity theory, where there is an increase in effective pricing of a product, individuals will tend to substitute the product for a close alternative. This is broadly borne out by the data. The amount of offshore assets under management in Singapore increased from an estimated $900 billion in 2010 to more than $4 trillion as of December 31, 2022, according to the Monetary Authority of Singapore. Additionally, Dubai and Hong Kong have taken in additional flows of cross-border wealth through the allure of having lower costs and fewer regulations.

Even so, the substitution effect of this trend was not necessarily uniform across all client segments. For example, ultra-high-net-worth individuals (those individuals whose net worth exceeds $30 million) have proven less sensitive to price increases, as their demand appears to be more inelastic in nature. In terms of magnitude, the overall fixed costs associated with restructuring complex offshore banking arrangements are proportionately less significant for clients with larger fortunes, as the marginal benefit of privacy remains relatively high. Conversely, clients with smaller deposits have had a greater propensity to exit the banks, which is why mid-tier Swiss private banks have had a significant number of consolidations through the 2010s, and the number of licensed Swiss banks declined from 337 in 2005 to 239 as of 2021 (according to Swiss National Bank data).

Residual Demand and Institutional Adaptation

While many Swiss banks were forced to exit the market, certain specialist banks have adapted or re-positioned themselves to serve as providers of legitimate wealth management services, including estate planning, currency diversification, and political risk hedging for clients of volatile economies. Habib Bank AG Zurich is one such bank that provides services to internationally mobile clients who place value on regulatory stability and access to cross-border banking in Switzerland independent of the need for anonymity.

The adaptation and re-positioning of these banks is a reflection of a key message regarding residual demand analysed through the prism of price elasticity analysis — namely that residual demand exists in instances where substitute products do exist, but those substitutes are considered very much inferior. In instances where a client is now significantly changing their banking arrangements (e.g. established a multi-jurisdictional estate), or where a foreign currency deposit is providing a safe-harbor against political instability in the emerging markets, the increase in price of Switzerland’s banking services has altered the demographics of its clientele, rather than eliminating all demand for banking services in Switzerland. The secrecy premium is no longer available from Swiss banks; however, these banks can still provide customers with a substantial and defensible value proposition. Furthermore, the government of Switzerland (Bern) now appears to be willing to permit legitimate market pricing of these adjusted banking services.