Cyprus: A Prototype?

By Surly Trader

With a slight shrug, the markets seem to be just fine with the deposit seizures whereby the EU is raiding private bank accounts within the small country of Cyprus.   The initial talk was to tax every depositor under €100,000 at 6.75% and those over that amount at 9.9%.  And who should care with a tiny economy that makes up just .2% of the Eurozone GDP?  You should.

It turns out that just a few weeks ago the finance minister of Cyprus himself would never have believed this would happen:

Cyprus’s new finance minister on Friday ruled out a haircut, or imposed losses, on bank deposits to ease a financial bailout from international lenders, now stalled amid worries about debt sustainability.

Really and categorically – and this doesn’t only apply in the case of Cyprus but for the world over and the euro zone – there really couldn’t be a more stupid idea,” Michael Sarris, who took over his post on Friday, told reporters.

The outcome of this “tax” really no longer matters.  The sad fact is that even Germany understands that, “Last Euro-Crisis Taboo (has been) Broken“.

What is stopping every depositor in Portugal, Spain, Italy and Greece from pulling their money out?  Why would you leave it in when the rules are changed overnight?

The worst case has always been a Europe wide “run on the banks”.  Let’s just see how much fuel they added to the fire.

From the business daily Handelsblatt in Germany:

“The currency union has committed a breach of trust. It weighs especially heavy because the euro states have already secretly been rehabilitating their economies at the expense of depositors. Low interest rate policies help bring down the national debt, but at the same time they gradually deplete the balances of savings and money market accounts. The pensions of many citizens are also dwindling.”

“Anyone who now believes they shouldn’t be interested in the fate of individual depositors on a remote Mediterranean island is mistaken. Cyprus sets a precedent. What happens there can also happen elsewhere. In Spain and Ireland, bank bailouts have allowed the national debt to explode to an unsustainable level. There, the euro zone could see tapping into bank accounts as the next step. In principle, no European depositor can remain assured that their bank balance will remain untouched — even in Germany.”


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Surly Trader

Share Trading can be stressful, but playing a rigged game is worse. SurlyTrader will explore the hidden game of financial institutions and the government that supports them while providing useful tips on trading strategies, hedging and personal finance. SurlyTrader is a portfolio manager at a large financial institution who specializes in trading derivatives.

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  1. Agreed, this sets a horrible precedent here in Europe. For the third day straight this story is running on the front pages of the papers here in Spain.

  2. The game of risk that tries to allocate commensurate reward has not changed regardless of your interpretation of matters.One would hope clearer minds have made that point clear.Generally insured depositors have enjoyed low reward in return for their low risk of default,but there has always been some risk albeit so small most people never consdered the risk to be significant enough to even think about.
    What we have found though is where high rewards have been offered for deposits that appear superficially to be low risk the risks have been much higher ,but hidden well.In Cyprus deposits have been attracting double and treble the return on offer in most other European countries.The question really is why did the depositors not ask the question why are the rewards so high,where is the hidden risk?
    The hidden risk in this case is that Cyprus is predominantly a high cash economy with little to offer by way of debt holders.Hence,actually depositors in such a society actually occupy the role normally occupied by bondholders !!

    Nothings changed.People as usual are myopic when it comes to identifying risk mainly because as usual they more preoccupied by the reward!!

  3. I wonder if this the reason my brothers immigrant inlaws has several hundred thousand dollars stashed away in various places in their house. They both passed away within six months of one another, afterward my brother told me about all the cash they had hidden. He was amazed, even our depression era parents don’t do that.

  4. If you look at this from the perspective of a tax payer and depositor in the periphery of Europe this precedent is very troubling. It is not just a question of interest bearing instruments entailing risk. It is a question of seizure of private property, period.

    In Spain we have had income & sales tax increases, major social cuts, ongoing bailouts and now we have this. (see link below)

    Where does this stop?

  5. There is no such thing as private property in the context that you are using it. If it is private then you should presume that it is not extended to some counterparty in exchange for some contracted return. The minute you do the latter it isn’t private anymore in the sense of risk and return. I do not think people really understand this issue very well.

  6. Ok, I think I follow you. So the logical reaction by Spanish depositors is to draw down their accounts now before the counter party risk comes into play going forward. This in practical terms is a bank run, correct.

  7. Actually let me explain that further by using examples.
    Your seizure of private property as you mean it occurs for example when a pair of jackboots (lol) walks into your house and at gunpoint removes your possessions forcibly. In that case there is no contract,you receive nothing in return for the action taken.
    When you place you money in a bank you are supplying a loan and the bank promises you a return under a contract.In this case you loan is no longer “private property” ,because you have exposed it (even if only slightly) to some element of counterparty risk.
    Now you might argue then that your loan also insured against loss,but that does not reverse your exposure to risk.It simply supposedly reduces that risk further in probability terms.Extend that idea further your govt runs out of money to pay it’s debts and to do so must renege on it’s insurance and take it further then takes part of your loan for the purpose of paying it’s debts (which are yours by the way).In this case it is still a contractual issue where the swap now becomes a reduction in govt debt (which is yours) in exchange for some part of your loan.
    The point I am trying to get across is that so called “seizure of private property” really is nothing of the kind when ultimately in scenarios like this you (via your govt) have taken on too much debt and to repay that debt in some part involves you in making an involuntary payment.

  8. In practical terms within the context of an economy that is carrying more debt than it can currently repay is nothing more than individuals collectively trying to avoid what I have already described. That is,their share of the govt debt burden they hope to step outside of by removing their cash and therefore their share of counterparty risk.LOL…but take that to an extreme and the govt have to then stretch for some other asset ..say your pension (argentina) etc etc.

  9. Thanks. I understand your point on a bank deposit not being private property in that it is tied to the debts of your government. I am just saying that the logical conclusion to what is happening are bank runs in the periphery countries. Inherently, most people assume that their checking deposit has a guarantee by the governing banking authority of their country. As far as I have read and understand, Spain guarantees CHECKING accounts up to 100,000 euros.

    Your argument is that this is not the case. Cypress has proven your point. As I said above, taxpayers have paid out the nose for the bailout and austerity here in Spain along with political corruption. Understanding first hand that the government can take your bank account after having paid all these taxes will lead to a bank run. It is the most logical end game imaginable. In the end its a game of musical chairs and the situation in Cypress is waking everybody up that they are a player in this game.

  10. On Cullen’s scale on ‘money-ness’ we have to money European bank deposits a bit to the left.

  11. Actually, no. The reason banks in Cyprus are closed is because they know the system will collapse if the inside money system breaks. In other words, they won’t even let you obtain cash. Its like it doesn’t exist if the bank decides not to let you access your account….

  12. I think what we all need to remember is that any guarantee is only as sound as the finances of the counterparty making that guarantee.There was a time when such an issue in relation to most European countries was hardly worthy of consideration.Post 2008 matters have changed,any policies that bring about a level of debt that is increasing in % terms in relation to that parties economic activity (GDP) makes it imo a very sensitive issue.

  13. Cullen, what do you think may be the possibility that an outcome in Cyprus now incorporates ongoing controls over bank withdrawls and money that may be taken in and out of the country?.
    Frankly,imo I think the Cypriots are going to be foolish if they don’t see a need and plan in this way,because I don’t see a way for them to avoid a very damaging backlash from this issue otherwise. Over time they might just restore order and confidence,but immediately without controls I think they are going to get buried if they don’t take preventative action. Bit like a fund halting withdrawals ,because immediate demands for redemtion bring about even more damage etc.

  14. It’s a fragile system, if a couple of banks in Cyprus can crash it. … Either that or there is no more inside money left. All those deposits were created by loans that cannot be repaid.
    Anyway, good luck using your Cyprus deposits as a medium of exchange right now.

  15. I guess you could argue that deposits, during a bank crisis, become an inferior medium of exchange to things like physical assets. It’s almost as if the scale of moneyness flips. But of course, we’re talking about incredibly rare circumstances.

  16. “It’s a fragile system”. It’s an offshore centre so really it’s fragility is tied closely to the confidence that people have in it.Around now that’s very low I suspect.That’s why I raised the issue of controls. They need time to restore confidence and the first step in that process should be to do some damage limitation work.

  17. I like to think of the system now as revolving around electronic money. The gold bugs AND the paper bugs are wrong. And that electronic system revolves around confidence in the electronic payments system. When that system begins to break down the essence of money begins to crumble and people revert back to things they can feel and touch. In a crisis, one could argue that physical things have an increasingly high “moneyness”.

  18. What do we mean by ‘confidence’?
    Is it a measurable knowledge that your deposits are backed by something substantial and that regulations and laws exist to protect your money. So if I deposit my money in your bank, will you make sound loans and not bankrupt yourself? Are you like George Bailey, using my loans to finance my neighbors’ houses? Or are you using my money to speculate in asset bubbles?
    Or, when we speak of confidence, do we mean a blind, collective faith that some greater power will always be there to provide liquidity?
    Too often these days it sounds like the latter. Investors and depositers are being asked simply to believe that the central banks will protect the money supply.
    I suspect that most of the banks are insolvent and until you convince me otherwise, I will lack confidence.

  19. Events like this have been forseen in the collectibles and art market. For the past 3-4 years, everything I collect has been making new highs. At first I just thought it was because people couldn’t get yield and were looking for other investment avenues, but then I started to come around to the idea people were losing faith in fiat and wanted something they could touch — as you put it Cullen — with “moneyness.”

  20. RANsquawk: #Cyprus and ECB officials working on capital control plans for when banks open, include limits on daily transactions

    My question answered very quickly although the full detail will be the most interesting.

  21. Art might also be easier to transport over borders within the EU. Cash and gold tend to be confiscated, as EU authorities are doing everything possible to keep small and mid-size bank deposits trapped within their own State. It is no longer possible to open accounts in Germany without proving residency, and daily and monthly cash withdrawal limits are in place to prevent bank runs. (Of course the truly rich can always find a way to get out since they can hire experts. There aren’t enough real rich to matter, and anyway most of them already have their Euros out of the more dubious States.) But customs agents aren’t likely to know most objects of art unless they are specifically assigned to an art detail. It is probably easier to smuggle sellable art objects into Switzerland than any other kind of financial asset.

  22. 1. Both the EU and Russia want Cyprus to implode. Keywords: Money Laundering. Russia has suffered heavily under capitol flight.

    2. Deflation is defined as destruction of money & credit. So, now even residents of Cyprus are experiencing their first bout of deflation. Who’s next ?

  23. another step towards the great financial reset in the debt/credit/entitlement bubble.

    fiat currency = debt

    i care not for any other explaination, having considered them.

    david kotok:

    For investors, we would strongly recommend that careful consideration be given to exposures in the Eurozone, the Eurosystem, the European Economic Community, and the European Union. Things have changed. Watch closely for bank runs. Also watch use of Emergency Liquidity Assistance (ELA), and watch how the European Central Bank (ECB) reviews value of collateral. Lastly, watch out for new capital controls in Cyprus. They will signal a death knell for cross-border money flows.

    Read more: