By James Saft
March 19 Unfair and a bungle it may be, but the
plan to levy bank deposits in Cyprus does have its virtues.
This is especially true if the proposed 5.8-billion-euro
levy is re-worked to shelter smaller depositors, allowing more
of the burden to fall on the huge number of large offshore
depositors, many of them from Russia.
The levy is a good thing for Cyprus in two ways: it helps to
protect future taxpayers; and it will tend to shrink the
island's grossly distended financial services industry. It will
drive a stake through the heart of the idea that it is sensible
for an economy within the euro area to have a banking system
seven times the size of its GDP and will hopefully lead to the
withering away of its offshore banking industry.
To be clear, as originally proposed, the bailout of Cyprus
banks is an outrage. The terms, which are in flux, included a
6.75 percent levy on all deposits under 100,000 euros, with
larger accounts subject to a 9.9 percent hit. Worse yet, senior
bondholders, of whom there are few, were entirely sheltered.
Natural justice argues for the pain to travel up the capital
structure, and with every effort made to entirely shelter small
accounts. Given the balance of deposits in Cyprus, this is
"The bank creditor bail-in improves the creditworthiness of
the Cypriot sovereign compared to the alternative where an
additional 5.8 billion euros worth of bank recapitalization
demands were to land on the public sector," Citibank economist
and former Bank of England policymaker Willem Buiter wrote to
The same logic holds for other euro zone economies.
Introduce the idea that there is not an endless font of public
money to rescue risk takers and the risk to the public drops.
The flip side - that depositors elsewhere may spark bank runs -
might well happen, but the alternative is to create an outsize
burden for the state and its taxpayers.
Frankly, if you are a small Cypriot depositor your biggest
potential liability isn't confiscation of your cash; it is the
destruction of your economy and the capture of your political
system by an overly large financial system. Just ask people in
Iceland or Ireland.
There has been a rolling global bank crisis since 2007 and
thus far, with the notable exception of Iceland which told
foreign creditors to whistle, all efforts have centered round
shielding risk takers from the consequences of their choices.
Is a Nicosia schoolteacher with 11,000 euros in the bank a
risk-taker? No, and he should be shielded. But a Russian with
400,000 euros probably is, just as were those who lent money to
Lehman Brothers in 2008 or JP Morgan today. A system in which
those people make little calculation of possible loss is a sham.
If we look around the world thus far, bank rescues, and
official policy, have generally had as their object easing the
burden of debt, rather than rescheduling it. "Foaming the
runways" for banks, in the words of former Treasury Secretary
Tim Geithner, has taken a variety of forms, from policy that
slowed the recognition by banks of their bad real estate debts,
to the cost of homeowners, to extraordinary monetary policy and
quantitative easing. Negative real interest rates - fixed income
yields far below inflation - in the U.S. and much of Europe are
a levy on savers every bit as real as what is proposed in
Cyprus, and yet no one cries "confiscation."
Many in the euro zone, and elsewhere, would be better off if
rather than channeling subsidies to the financial system to
support its existing amount of debt we got down to the tough
task of rescheduling and reducing debt.
The people of Cyprus, specifically, will be better off if
they send a clear signal to the rest of the world that they will
be better off not giving them their money to watch.
This is not to say that this is all a policy of sweetness
and light. Bank runs are a possibility, as Buiter acknowledges.
If banks are solvent, the ECB should lend support. If they are
not, then restructure, eating away progressively at first
equity, the junior and senior debt, followed lastly by
For Cyprus particularly shrinking finance will be painful,
but unless Germans and Finns decide to make everyone's deposits
whole the system is unsustainable and the pain must be
allocated. For Europe, this implies that bank finance will
become scarcer and more expensive.