Cyprus update

These points are from scattered but I think reliable tweets, of course stay tuned for updates.  The Cypriot Parliament wants more time to debate, so they will not be rubber-stamping the depositor haircut measure today, as had originally been the plan.  In theory they are now voting Monday, although presumably that stands in doubt too.  The German Parliament would not have passed the bailout at all, without the depositor haircut or something similar.  This stance could cause other eurozone nations to reevaluate their future policies and also current bargaining strategies.  The EU will not rule out “deposit assessments” for future bailouts.  As I’ve written, the smooth running of this gambit would not be good news either but would lead only to a raising of the stakes with a replay of the basic game.  Barclays thinks that significant bank runs elsewhere are unlikely; in my view the longer-run ramifications most likely operate through changing the incentives of other eurozone member governments, which now can expect a lower share of the surplus from any bargain.  Morgan Stanley is less optimistic.  Note that Cyprus had met the Maastricht hurdle before the crisis.

The broadest lesson of them all concerns the dangers of framing when you play the same game over and over again (attn: U.S. fiscal policymakers).  German policymakers/voters have felt backed into a corner by repeated bailouts and that is when stupid choices start being made.  This could go down as a blunder of historic proportions.  It also shows that EU governance already is a disaster and profoundly anti-democratic in the worst sense of that term.  A second general lesson is that modern politics cannot sustain wealth taxes very well, unless those taxes have a very long history (property taxes) or are extremely non-transparent, such as the lack of inflation indexing on U.S. capital gains levies; the intolerability of the deposit confiscation is closely related to the issues surrounding the stickiness of nominal wages.

Further update: Cypriot bank holiday further extended through Tuesday…And here are thoughts from Matt Yglesias.

Comments

"This could go down as a blunder of historic proportions." True.

"It also shows that EU governance already is a disaster." True again.

Sometimes I think that almost none of the big lessons of the Second World War, and the preceding years, were learnt.

Only about 20 years passed between WWI and WWII. You would think some lessons would have been learned at the end of WWI.

as the saying goes: fool me once...

A proposed mechanism behind the Kondratiev wave is that it corresponds to the time it takes for the people who learned the lessons to die. Of course, the wave itself is not considered a respectable hypothesis among academic economists. But among charlatans (the preferred term is "technical analysts"), it's a popular model.

I'm wondering whether the stock market will crash on Monday. It's due for a correction anyway, and the Cyprus situation might be just the right event to pop the bubble, for example if it provokes a run on European banks.

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But it was Thatcher herself, I believe, that concluded decades ago that it was important to keep the Germans happy.

Especially when they are the ones paying the bills.

The ECB could have backstopped the Cyprus banks.

Where would Germany's export industries be without the other Eurozone countries to buy its products and without a single currency to prevent the others from devaluing and thereby becoming more competitive?

This episode once again shows the value of controlling one's own currency

'This episode once again shows the value of controlling one’s own currency'

Like Russia, when it defaulted? Here is just a link to wikipedia, as I am certain the wonderfully informed comments remember that event - http://en.wikipedia.org/wiki/1998_Russian_financial_crisis

Most of the troubled European countries would be much better off if they controlled their own currency. Compare the interest rates paid today by major countries which control their own currencies and those that don't.

Controlling your own currency is helpful, but it is not always sufficient.

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The Russians were trying to maintain an exchange rate band. That requires foreign reserves, which causes you to run into that whole, "reliant on currencies you don't control," problem. So yes, more qualifiers are needed, like a floating exchange rate.

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'Most of the troubled European countries would be much better off if they controlled their own currency.'

Well, let's see - Hungary is a mess, and not in the eurozone. Iceland, of course, is not in the EU. Greece should never have been in the eurozone, and historically has defaulted on its debts every second year. The UK is not exactly a shining economic beacon, and is not a member of the eurozone.

Actually, the 'troubled European countries' seem to share mainly the fact they are troubled.

So are Spain, Portugal, Italy, Greece and Ireland not troubled, or not in the Eurozone?

And Iceland seems to be doing fine these days.

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Hungary truly is a mess. Unemployment rate: 11%.

Greece is running a primary surplus to maintain Euro membership. Unemployment: 26%.

I think it's quite arguable that continued membership in the Euro zone is doubling the unemployment rate in the southern tier countries.

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All to often, the lessons are learned and then promptly forgotten when those lessons are participially inconvenient.

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"Barclays thinks that significant bank runs elsewhere are unlikely;.."

Not sure why anyone would mention what Barclays thinks. What can they think! Obviously they could hardly come out and say bank run are likely - or even possible - and I don't see how they could avoid saying something.

Kind of empty reportage.

lff

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Tyler,

Please read Stephen Carter's column on Pope Francis's beautiful silence

http://www.bloomberg.com/news/2013-03-14/pope-francis-s-beautiful-silence.html

In particular, I like his final words: " …. and if we lack the time to think clearly, we lack the time to do democracy well."

Yes, to understand the EU's bailout is difficult, but that's not excuse to write posts as if one knew at least what the right questions are. Once I realized I knew nothing about what is going on there, my concern was whether the person negotiating on behalf of Chipre knew what he was doing. Well, that person is Michael Sarris who assumed the position of Minister of Finance less than a month ago (he had been Minister between 2005 and 2008). For many years, as a WB loan officer, Michael negotiated adjustment agreements with governments of failed countries, and more important long ago he learnt what it took for a bailout to succeed (just let me say that Michael could explain you the differences between the parallel crises of Argentina and Chile in 1982-83). Indeed, I know nothing about Chipre's political context in which Michael has to negotiate the adjustment program and to implement it. But if he leaves his position in the next few days, I'll take it as a signal that the proposed agreement is a bad one or the government is too weak to implement it. And if he continues in his position by Fools' Day, I'll assume he thinks it could work.

Well I wish Mr. Sarris well. Not to cast aspersions, but he does have a controversial relationship with the law in some personal matters. I think the Turks may be onto something--why would a man who is clearly innocent be shielding his face from photographers? Would he not be smiling and laughing if it was a bogus charge? Not that it matters for the bailout issue.

"The prominent Cypriot economist accused was caught red-handed in some kind of sexual orgy, involving two other men, one of whom is a minor... Sensation caused by the information that makes the round of T / C media, that this is not the first time Mr Sarris has problems with pseudo [Northern Turkish Cyprus] police for "sexual relationship against the laws of nature." - translated from http://www.sigmalive.com/simerini/news/local/428411#sthash.42MR3KuB.dpuf

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So fair enough. That's why you have the 9.9 percent levy on deposits over €100,000. But why the 6.75 percent tax on deposits below
€100,000? After all, those are the deposits that had received official FDIC-style insurance. Why break that promise?

1) Pour encourager les autres -- Germany wants to make bailouts as unappealing as possible. That means spreading the pain around. A capital seizure that only affects Russian plutocrats is not nearly painful enough.

2) To quote Willie Sutton -- that's where the money is. Government debts in the EU/US are rapidly growing too large to be financed through elevated taxation or bailed out by more solvent governments. You rob the middle class in Cyprus, because you're planning on robbing them elsewhere, too.

Or, you can think of it a different way:

1. German banks did not have exposure, as they did in Spain and Ireland.

2. Competition by small countries to acquire deposits through lax bank regulation ends poorly. Make the depositors pay for poor banking regulation, thereby deterring money launderers and tax evaders from depositing in countries with weak bank regulation.

3. How austere could you get with a small country with a disproportionately large banking system.

4. If depositors start paying, this will prompt better EU banking regulation. Or, if it doesn't, smart depositors will shun banks in countries with weak regulation and inadequate back up capital.

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So that the Russians don't feel singled out and transfer their deposits to banks elsewhere.

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I wonder what the haircut for the over €100,000 depositors would have been if they hadn't done the 6.75% tax on the under €100,000 depositors.

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I miss the days when the verbiage of the post would have been replaced by something pithy, like 'beware the eurogeddon of March.'

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"thoughts from Matt Yglesias": I'm not sure that I'd describe them as 'thoughts'. Sometimes American courtesy goes too far.

+1

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Thank god for this kind of in-depth analysis.

Enjoy your third recession in five years...
-American Courtesy

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Those Cypriots who kept their money under the mattress now look like sophisticated investors: by forgoing 1% in bank deposit interest, they avoided a 6.75% haircut. Good for them.

I find this move truly extraordinary: in 2008 the EU instituted insurance for all deposits under Euro 100,000 to eliminate the risk of bank runs by smaller depositers - and now??

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Can't we file this under the "not as rich as we thought we were" section?

Probably not an altogether bad idea to make depositors less oblivious to the risks they take, though I think they will never take the hint.

It would be a really really bad idea to encourage people to look at balance sheets. It confuses them and may make them realize that there isn't anything there at all.

From what I have read Finland wanted a 40% haircut as their starting position. They seem to have this quaint notion that when you write a check some money has to be there.

Europe over the last couple years has been about optical backstops. The ECB says they will buy spanish bonds and the yields settle down without them buying any. That is what was so interesting about this instance, they are selling an optical backstop in return for a haircut.

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The problem is that you don't want to convince small savers that their lowest-risk option is to keep their money under the mattress. Especially not by making it true.

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So, Cyprus is forced to retroactively revoke its deposit insurance. Is that all part of a program to give an unfair advantage to creditor nation banks?

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The Germans and IMF wanted a 40% tax.

Is this like TARP in September 2008? The market (currency, sovereign bonds) will tank if they reject the bailout, and if they approve it, there's potential bank runs across Europe?

Can we start talking about the breakup of the EU now?

Can't wait for the next Nigel Farage clip. How many points does UKIP gain in the UK? Grillo in Italy? Finns in Finland? Euro skeptic parties in France, Germany and Holland? Hungary's right-wing government wins too.

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'Euro skeptic parties in Germany'

Don't actually exist at this point, though on its ongoing journey to political irrelevance, the FDP did dabble a bit with such. Not that anyone took them seriously at the time.

You say that, but...

http://www.spiegel.de/international/germany/new-party-in-germany-goes-after-euro-skeptic-voters-a-887744.html

First I have heard of this, and this quote just might be the reason why - 'A new party is forming this spring, intent on abandoning European efforts to prop up the common currency.' Followed by the fact they don't actually exist yet - 'Alternative for Germany has not yet formally become a political party, though it reportedly plans to do so in the middle of April.'

Who knows - it only took the Greens about two decades to acquire serious political weight, the Pirates took less than a decade to make a big splash in a few elections (and the speed of their growth shows, as they are not really an organized political force at this point). Personally, waiting until an actual anti-euro party exists might be the best way to deal with the statement that currently, no real anti-euro party exists in Germany.

(And Henkel? The man remains interesting, as he essentially entirely blamed the U.S. for the global financial crisis - a position you don't often read about in English.)

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And from another source (via metafilter - it isn't all about wikipedia links, after all) -

'Also, FWIW, Christoforos Pissaridis, a Cypriot and a Nobel Laureate in Economics sided with the levy saying it's the only way out - http://www.skai.gr/news/finance/article/226604/pissaridis-tha-katarreusei-i-oikonomia-an-den-psifistei-to-telos-epi-ton-katatheseon/'

The link is Greek, and the guy doesn't technically have a Nobel Prize, but for those who find wikipedia beneath them, enjoy reading a fairly prime source from the heart of the crisis.

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Not quite so fast.
What would you do with a bank that
a) is much larger than needed for your local economy (balance sheets together are about 4x GDP) and
b) that has made bad investment decisions, namely buying Greek government debt and
c) which is funded to >95% by deposits = not many bondholders to get to bail in?

Under these circumstances I believe it's prudent to include depositors in the bail-out. Of course, much better would it be to let the banks go bust and not spend govt money on the bail-out. That apparently was not an option for the govt of Cyprus that wanted to safeguard the 6000 jobs and the offshore banking industry.

Now, it is a mistake to involve depositors with less than €100k. With this "stability" tax we now have a risk of bank runs indeed. However, again that was most likely a decision by the govt of Cyprus which didn't want to abruptly end the status of Cyprus as a refuge centre for international money.

So there was no easy way out and most of the complications were likely brought in by Cyprus itself. These banks were not too large to fail, but the Cyprus govt would have been in danger (probably still is) of defaulting on its debt. Again, an option I would prefer but my position on that is a minority one in Europe.

Also, I haven't seen the Ekathimerini report regarding the extension of the bank holiday to Tuesday confirmed yet, so I would classify it as a rumour so far.

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There are a couple of things that are really interesting about this situation, and they have very little to do with Cyprus. It was a piddling amount of money in the grand scheme of things. Nevertheless, depositor's money was taken from them to pay for the bill.

Someone with 100k euros, dollars, whatever in a bank account is now wealthy. Anyone close to retirement years or a business with 5 employees will have that much in the bank account. Now they are on the same level as Russian Oligarchs when it comes to plundering. When Canada faced fiscal difficulty it was amazing what 'tax the rich' ended up as. We are seeing that same dynamic happen today when you read the news. If you have $100k you are rich and someone will be trying to take it from you. Count on it.

The IMF, the EU, all the organizations that have been desperately trying to keep a lid on any hint of instability in Europe were the ones that implemented this deal. I don't know if there are going to be bank runs or not, I suspect we will see bank holidays in lots of places this week. The return on putting money under your mattress is now 6.9%. The question becomes why would they even go near this type of scenario?

http://www.imf.org/external/np/sec/memdir/eds.aspx

Look at this list. These are the nations funding the IMF. It would be of great interest to compare the debt to gdp, or central government revenues to gdp numbers of these nations compared to the ones they are called upon to bail out. Listen to this link, Kyle Bass who describes what he describes as inevitable bond crisis coming to Japan. One of the interesting highlights is where he describes the half trillion in options against some aspect of the Japanese bond market. He pays a couple of basis points for these options. He is now getting calls from the people who sold them to him wondering if he would be interested in selling them back. It reminds him of 2007 when he got the same calls about his options on the collapse of the mortgage market. It seems some inkling of the tenuous situation is seeping into the reptile brains that run the world financial system. And yes, he is introduced by Austan Goolsbee.

http://media.chicagobooth.edu/mediasite/Viewer/?peid=f15d95d054e8442ab0cc1c60321383101d

The strategy of propping everything up in the hope that it will all come roaring back has been tried and retried. All the world central banks have swollen their balance sheets in the attempt, all the governments have run unimaginable deficits in the same attempt. It hasn't worked, the world financial system is as close to the precipice as it was before it started. Mr Bass wonders why anyone in their right mind would sell him an option on anything for a basis point, he says it is AIG all over again.

I think that there isn't anything left. The wad is blown, and from now on there will be writedowns and haircuts. The 'Rich', anyone with any income or any savings will be pillaged to pay for the profligacy of the last decade or longer. I'm amazed at the news reports and the spin on Cyprus, and how quickly it was grasped as a comfort in the face of the unimaginable.

Yikes! Great comment, great video.

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Now that a precedent has been set, how can depositors in any of the shaky EU countries feel confident that they won't be next?

Indeed, 'who's next?' as the CA lottery advert used to say?

And note this word play: "This could go down as a blunder of historic proportions" "the smooth running of this gambit would not be good news either but would lead only to a raising of the stakes with a replay of the basic game" - spoken like a true chess master, and indeed TC was the 1977 NJ State Champion, sandwiched in-between the two years won by legendary grandmaster Pal Benko (creator of the Benko gambit). Wow.

Now for another chess analogy (as chess is analogous to life, though the converse, that life is chess, is also observed by zealots of the royal game): in a game that is 'quiet' for a long time, where one side mimics the moves of another, this frequently leads to violent tactics, where there is "fire on board" and the chess board explodes in activity leading to a fiery denouement (typically the player who has been slavishly following the moves of their opponent loses--now who might that be?; maybe the German parliament?).

Let the games begin! Is this the endgame for the old crisis? Or just the opening of a new crisis?

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Exactly right, Rich. This policy is precisely the opposite of deposit insurance. It's a run stimulator.

Now, what happens when the banks finally open later this week? Well, if I'm a Russian (or a European entrepreneur), I'm spending today and tomorrow setting up my Cayman Islands account, and when the Cyprus banks open, I'm transferring my funds out. And given that this is a large portion of the deposits in Cyprus, it will likely take down the banking system. So, if this theory holds, the EU finance ministers will have engineered a bank run for later this week and will have to recapitalize the Cyprus banking system whole or risk the implosion of the banking systems in other southern tier countries.

I can understand the appeal of seizing the deposts of non-EU citizens, but this was a hugely risky move and may well increase the value of the required bailout by multiples.

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Quick everyone, buy property. Or gold, or farmland, or forests, or .......

Or diamonds to stick up your bottom.

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Hmmm, I suspect some Caribbean banks might do well in the near future. And perhaps some Swiss banks also.

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I hope the Cypriot journalists are investigating whether the Cypriot politicians and finance ministers withdrew their deposits before agreeing to the deal.

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Someone go back in time 3 years and tell the cypriots about bitcoin. Then they wouldn't have to trust banks to keep their money safe.

Were you advising people to buy Las Vegas real estate in 2007 as well?

Or

I do hope you are making a joke.

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Yet another reason to use bitcoin.

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