A short history of bank deposit levies

by on March 18, 2013 at 8:49 am in Current Affairs, History, Law | Permalink

In July 1992 Italy’s Socialist Prime Minister Giuliano Amato imposed a one-off levy on bank accounts. It was a mere 0.6% in comparison with Cyprus’s scheme, and it still left a lasting scar on the country’s financial psyche. In 1936 Norway experimented with a bank deposit tax, but it caused an exodus of cash from the country. There are also some Latin American examples (Brazil in 1992, Argentina at the turn of the millennium) but most were combined with capital controls, and were last-ditch efforts to rescue the financial system when all else had already been tried.

That is from Edmund Conway, here is more.  From Carola Binder, here is a history of capital levies in fiscal crises, and via Google here is what Hungary did in 1920.

Andrew' March 18, 2013 at 9:09 am

That’s where the money is. Am I right?

Brian Donohue March 18, 2013 at 9:21 am

Of course, you go to where the money is. It’s so obvious now. A great deal has become clear to me recently: In the end, the ants always pay for the grasshoppers.

“It does not seem fair to expect today’s younger taxpayers—especially those not born to better-off parents—to pay more for the increased costs of an older society while asset-rich older people (and their children) are protected.”

http://www.economist.com/blogs/blighty/2013/03/generational-inequality?spc=scode&spv=xm&ah=9d7f7ab945510a56fa6d37c30b6f1709

Vivian Darkbloom March 18, 2013 at 9:37 am

The proposed Cyprus levy on bank deposits (hitting also, or perhaps even primarily Russian residents) presents an interesting issue under the tax treaty between Cyprus and Russia.

Article 21(4) of that treaty prohibits Cyprus from imposing taxes on the “capital” of Russian residents. Several types of “capital” are mentioned specifically (Articles 21(1) through (3), but the catch-all provision of Article 21(4) would appear to include bank deposits as “capital”:

“All other elements of capital of a resident of a Contracting State shall be taxable only in that State”.

Reading this alone, it would seem to be conclusive that Cyprus can’t tax the capital (or other forms of wealth) owned by Russian residents without terminating the treaty. However, Article 2 of that Treaty states the existing taxes to which the treaty applies. Article 2 would also extend the scope of the treaty to not only the enumerated existing taxes, but future taxes that replace the mentioned taxes or are “substantially similar”. Luckily for Cyprus, they don’t have any existing taxes on capital or any wealth taxes (to my knowledge) that this tax will replace or be substantially similar to. Ironically, therefore, while Cyprus needs to give diplomatic notice of the change, it doesn’t appear that they are violating the tax treaty by imposing this tax simply because it is an entirely new animal and not a substitute for an existing one.

Cyprus could always just terminate the treaty; however, it seems to me that one of the reasons they were forced to adopt the deposit tax rather than, say, impose or increase withholding taxes on interest, royalties or dividends paid to Russian residents, is that the existing treaty wouldn’t allow that. And, as a practical matter, increasing the withholding taxes on non-residents would allow the transfer of funds before those taxes would be able to bite.

sebastian March 18, 2013 at 10:47 am

There is a thing about treaties between countries (all of international law, essentially).

There is no enforcement of them. Yes, it may be a violation of the treaty. But Russia doesn’t have a way to retaliate via court. It cannot enforce that treaty. (Obvs. they can do so via foreign policy or violating other treaty provisions themselves).

Violating (or not) treaties between countries essentially is just a game about who can apply more pressure.

Vivian Darkbloom March 18, 2013 at 11:15 am

I think you’ve missed the point. I’m arguing it is *not* a violation of the treaty and is therefore one of the few “legal” means of imposing tax on non-resident Russians. It just happens to be one of the few practical means as well.

Other means of raising revenue from foreigners (read Russians) were considered, including levying a withholding tax on interest, dividends, royalties, etc. That would have been a treaty violation and it was rejected (at least for now). True, Cyprus could have just abrogated the treaty. That would have been worse for them. The Russian money would flee completely and would never return—ever. The Russians clearly don’t like this, but if the treaty will still protect them on withholding taxes they may decide to take their lumps and stick it out.

The rule of law has suffered greatly of late, even among countries like the US. I think this would have been a bridge too far for more conscientious members of the EU who also have tax treaties and important investments in Russia. I have not examined every aspect of this completely. But, It could be that there is a Treaty of Friendship and Commerce that could give rise to a claim or some other provision of international law. Cyprus needs to be careful they are expropriating property (that’s what it is in plain English) in a manner that does not discriminate against foreigners. That would be against international law. They are trying to achieve de facto discrimination while maintaining de jure neutrality. That may be a fine line.

If Cyprus did not abide by international law or treaty in confiscating the bank deposits, it would likely open itself up to something like the US-Iran Claims Tribunal set up in 1981. Those cases are still being heard. I tis not something Cyprus or the EU wants or needs.

http://www.iusct.net/Pages/Public/A-About.aspx

Graeme March 26, 2013 at 4:42 am

Isn’t it more a forced acquisition in return for bank shares, than a one off ‘tax’/levy?

(And how insolvent are the banks – if both large ones fell, would big depositors reap 70% or more?)

Roy March 18, 2013 at 9:52 am

In the case of the Japanese Levy of ’46-47 that Japanese citizens were formally barred by the occupation forces from leaving the country except under official occupation business.

Brian Donohue March 18, 2013 at 10:18 am

Why do bondholders get off scot-free?

KLO March 18, 2013 at 10:29 am

Not sure that they will. That said, Cypriot banks rely heavily on deposits for funding. You see, they are in the money laundering business, so capital is not hard to come by in the form of deposits.

Anon. March 18, 2013 at 11:14 am

The amount of senior debt on the banks is tiny, and what little is there is secured.

As for the sovereign debt, much of it is issued under English law and as such Cyprus cannot default without becoming the next Argentina.

Anon March 18, 2013 at 12:42 pm

I’ve read somewhere that more than 90% of the debt of cypriot banks are deposits, so bail-in of bondholders probably wouldn’t have raised sufficient capital.

KLO March 18, 2013 at 10:22 am

I am puzzled by the outrage at the Cyprus Scheme. Cypriot banks are insolvent. Without foreign assistance, depositors stand to lose much more than up to 10% of the value of their deposits. So the foreigners demand that, before any assistance is given, the banks write down a portion of their liabilties, which includes a reduction in the value of these deposits. This is an outrage? Really? Ordinary Cypriots and Russian oligarchs are still being rewarded with lucre from Northern Europeans to cover most of their losses. People who are outraged apparently are unaware that the banks don’t actually have the money people deposited in them. No one is “taking your money.” It no longer exists.

Andrew' March 18, 2013 at 10:44 am

But you are describing the peak behind the komono. Each levy should be sent along with a copy of Rothbard’s pamphlet.

sebastian March 18, 2013 at 10:52 am

Why are you expecting people to behave rationally while at the same time maintaing a macro-common good perspective?

Ofc their deposits are threatened. They know that. They’ll try to raise hell about any solution that doesn’t get them out scot-free, hoping for a full bailout (which was considered the likely outcome). Basically, depositors are hoping the European tax payers will pay the bill. They don’t care that it “no longer exist”. It never existed in the first place (money in a bank account is always based on trust, not actual value behind). All they care about is the (so far existing) expectation that somebody will pay for it, so they can still withdraw the deposit.

In the end, everybody will work & argue for their own best solution. They maybe rational (only to a degree), but only in a me-first, micro perspective. I don’t understand how you could be surprised.

derek March 18, 2013 at 10:53 am

Ok then, go ahead with a bank failure.

Better question. Do you, or does Europe, the EU, Merkel, Hollande, etc. really want people to pore over balance sheets and pull their money if there is the least suspicion of financial health? Does Geithner? Does Abe?

I tend to agree with you, I think no one should have been bailed out back in 2008, 2009. The European and North American financial sector would look quite different, and there would be a profound respect for fiscal probity. But that isn’t what happened, the EU has gone to great lengths to paper over problems.

Why the change?

FE March 18, 2013 at 12:12 pm

Under Cypriot law, like American law, deposits up to a certain threshold are insured 100%. So small depositors are supposed to recover 100% while the larger depositors take the haircuts. For whatever reason that allocation of risk does no konger suits the policy makers, so the Cyprus Scheme imposes haircuts on small depositors to ease the pain on the larger ones. I think I can discern the basis for small depositor outrage.

JWatts March 18, 2013 at 3:28 pm

+1, There was a legal agreement to protect the first 100K euro of deposits. This agreement is being discarded for the sake of political convenience.

KLO March 18, 2013 at 3:57 pm

Cypriot deposit insurance was only as as good as Cyprus’ ability to make good on it. Cyprus is broke and cannot make good on it. The fault lies with the government of Cyprus for running out of money. Those bailing out the depositers have in no way caused Cyprus to fail to live up to its gurantee.

JWatts March 18, 2013 at 11:13 pm

I fail to see why the haircut was not contained to the amounts in excess of 100k? Other than the aforementioned political convenience.

x March 18, 2013 at 10:41 am

Anyway, the solution is that banks must stop lending people’s money, i.e. operate on a 100% reserve system.

Or even better, central banks should just give accounts to everyone like they currently do to banks, so that all risk is eliminated.

sebastian March 18, 2013 at 11:01 am

Yeah, sure.

Go back to a 16th century economy (not even then, tbh).

The solution is proper banking regulation, as had been in place for a good part of the 20th century, when we didn’t have giant financial crisises

X March 18, 2013 at 11:22 am

It’s not possible to have regulation, because systemic risk cannot be eliminated.

Whatever asset class banks are allowed to invest in, they risk a correlated loss of value of the whole market (e.g. fall of real estate prices, loss of confidence in all or most sovereign bonds, stock market crashes, gold price crashes, etc.), and differentiating across all asset classes is likely impossible since some are not for liquid sale (e.g. workforce labor).

The only real solution is that, if you need to give out Euros, well, you keep Euros in cash, and thus perfectly hedge your risk!

This fiction that there are risk-free portfolios (relative to a currency) that are not cash in that currency needs to stop, it’s the root of all problems in financial markets.

sebastian March 18, 2013 at 11:55 am

How come it all worked during the forties/fifties/sixties and seventies, when such regulation was in place?

Don’t replace ideology for actual experience.

Dan Weber March 18, 2013 at 12:41 pm

It’s not like there weren’t banking crises during the middle of the 20th century. Each fix generally caused the next, even bigger crisis.

sebastian March 18, 2013 at 1:18 pm

Not to the same extent as before and after.

Only after capital flow and banking deregulation did a new area of big banking crisises begin.

Otherwise, point to examples. 1945-1970

Dan Weber March 18, 2013 at 1:37 pm

Is “only after capital flow” the way of saying that if only people couldn’t move money around, there wouldn’t be banking crises?

Schedule Q was a product of the 1930s, and locked banks’ interest rates, which was fine when inflation (and therefore interest) was low. When interest rates rose, it was suddenly a really bad idea, and another patchwork (Freddie Mac) was made to work around it, by making securitization.

Fannie Mae and was pulled off the books in 1968 because LBJ wanted to pretend that they weren’t part of the deficit. The market assumed it still was, and, lo and behold, eventually the government had to cover Fannie’s losses.

Like generals fight the last war, banking regulators keep on stopping the last crisis. The regulatory regime of the 40s was doomed as soon as inflation happened. Maybe we ought to go back on the gold standard to stop that. (NB: That is not a serious recommendation.)

I don’t know what a good banking regulation scheme looks like. I can see the bad ones, though.

mariah March 18, 2013 at 12:02 pm

Regulation can seriously limit both the risk involved, and the size of particular banks. Meaning that you can either let them fail to some extent, or a bailout becomes much less costly. It worked before.

dearieme March 18, 2013 at 10:54 am

How does the scale of the Cyprus affair compare with the scale of FDR’s confiscations?

ThomasH March 18, 2013 at 11:11 am

The “original sin” of the Euro Zone was not to foresee that private sector actors would confuse the elimination of currency risk with the elimination of country risk. And the effort to protect private investors who made that mistake is wreaking havoc.

Plamus March 18, 2013 at 7:38 pm

+ a beer for this man. Would have been a Scotch if “private” had been omitted.

charlie March 18, 2013 at 11:18 am

I think everyone is missing the game theory here.

the levy on under 100K was designed to fail.

However, it gives you a chance for locals — real locals — to hit the ATMs for the next week. Not sure what the withdraw limit is, but usually for me it is 400-500. That is close to 3500-4000 you can take out for to most sensitive.

After you bank accounts start getting higher than that the pain is less.

Also, the EU is still mad at cyprus for their rejection of the partition deal. Even steven.

Why did you let these people into the EU?

Malta is next?

zbicyclist March 18, 2013 at 12:32 pm

Per charlie’s theory:

“Cyprus’s banking association issued a statement calling on people to remain “calm,” saying it was ready to implement whatever measures were needed to protect the stability of the banking sector. The association said it would instruct banks to load automated teller machines with cash while banks remain closed.”

http://www.nytimes.com/2013/03/19/business/global/asian-markets-drop-on-latest-euro-concerns.html?hp&_r=0

JWatts March 18, 2013 at 3:44 pm

I can’t imagine they can load the ATM’s fast enough to keep up with demand. It would probably be an excellent time for the banks to raise their ATM fee’s though. It’s a sellers market.

Vivian Darkbloom March 18, 2013 at 12:45 pm

The Cyprus affair reminds me of the wonderful memoir written by Lawrence Durrell entitled “Bitter Lemons of Cyprus”. The title, anyway, seems appropriate to the situation now.

Tony Due March 29, 2013 at 4:41 am

Were any of these cases Levies were taken in Italy in 1992, Norway in 1936, Brazil in 1992 and Aregentina (at the turn of the Millliennium different) taken from a solvent bank ?

Allowing banks to be bailed out creates a difficult precedent for many countries as their respective governments simply don’t have the resources to do so. The 100k Euro Guaranteed level should remain but anything above if paid out of government money is setting precendents in countries which later may not be able to be kept. Good banks are not rewarded for being safer than the risker banks as paying above 100k provides depositors with a false sense of security, they simply look for the highest yielding banks knowing/thinking the risks are a like rather than choosing the safest.

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