Tuesday, March 26, 2013
Cyprus bail out - the good, bad and the ugly
Cyprus has a stay of execution, I say that because its banks will never be the same again. Indeed, if ever there was a case to allow full reserve banking (whereby loans = deposits, albeit with precious low returns if any), this is it. Cypriots will want banks that exist purely to protect their money from being stolen, not banks that risk just that.
Allister Heath has pointed out that there are some good dimensions to this deal, it is a lot better than how it was looking a week or so ago.
- All deposits of 100,000 Euro or less are safe. Given this was an ECB guarantee across the Eurozone, and the ECB has ensured this elsewhere, this was a minimum responsibility. It may not be the wisest promise, but it was that. This will, at least, mean that most Cypriots have their savings protected, although plenty of businesses will get hit.
- As only two banks are in trouble (albeit two of the biggest ones), depositors for banks other than Laiki and the Bank of Cyprus, have their deposits untouched altogether. Good. It was a nonsense to effectively "nationalise" all bank deposits, including those of banks that are not having difficulty meeting their obligations.
- Shareholders of Laiki bank lose the lot, and bondholders get their bonds replaced by equity, as low as that will be.
- Taxpayers are no longer solely responsible for bailing out the banks, but rather there is an orderly wind down of Laiki back, with depositor accounts transferred to an inheritor bank - the Bank of Cyprus.
In short, instead of a tax on all deposits, only depositors above the insured threshold of banks that need bailouts, get hit.
- Actual deposit insurance is not being triggered, rather there is just an exemption for those under 100,000 Euros (and larger cuts for those above it). It saves taxpayers (as insurers), but it does disproportionately hit depositors when there is insurance that could be used to offset that. Still, the state shouldn't be insurer anyway. Allister Heath reckons it would have been better to wind down the banks completely, figure out a flat percentage of deposits across all accounts needed, and then used the insurance to recompense those under 100,000 Euros.
- There still isn't a legal place for basic "safe" banks to operate outside the fractional reserve banking system economically. Many people would be happier, especially now, to have money sitting in a zero or near zero interest rate bank account that didn't face these risks. These events ought to have accommodated that.
- Capital controls. I said enough about that yesterday. When removed, there will be grand capital flight.
- With what is about to happen, it will kill off Cyprus being a financial hub for a generation. Just as well the country has good beaches and olives. Maybe it will think again about rejecting the UN brokered deal to reunify the country with the Turkish occupied north. That, along with Turkey being an obvious trading and investment partner (although the Greek Cypriot community may fear being overwhelmed), could help revitalise this country. Many will lose jobs and find themselves floundering as a result, but they will pick themselves up.
- The rhetoric around "Russian money launderers" will haunt the EU and the ECB for many years. It is one thing to have concerns and beliefs, another to air them without presenting evidence and without taking regulatory steps to address them. To sweepingly act as if Russians with money in Cypriot bank accounts are all criminals is an unwarranted slur. If there is substance in this, and the ECB cares, then there should be Eurozone wide directives to cover this.
- Cypriot public debt will be at 100% of GDP by 2020 at best, given it is borrowing 10 billion Euro from the Eurozone to cover all of this.
- Cyprus has agreed to increase corporation tax to 12.5%, reducing its competitiveness.