Tuesday, March 26, 2013

Stratfor: Europe's Disturbing Precedent in Cyprus

My mind is still boggled by the Cyprus "bailout" and I'm not the only one:

Since the global financial crisis of the 1920s, all advanced industrial countries -- and many others -- had been operating on a fundamental principle that deposits in banks were utterly secure. They were not regarded as bonds paying certain interest, whose value would disappear if the bank failed. Deposits were regarded as riskless placements of money, with the risk covered by deposit insurance for smaller deposits, but in practical terms, guaranteed by the national wealth.

This guarantee meant that individual savings would be safe and that working capital parked by corporations in a bank was safe as well. The alternative was not only uncertainty, but also people hoarding cash and preventing it from entering the financial system. It was necessary to have a secure place to put money so that it was available for lending. The runs on banks in the 1920s and 1930s drove home the need for total security for deposits.
Brussels demanded that the bailout for Cypriot banks be partly paid for by depositors in those banks. That demand essentially violated the social contract on the sanctity of bank deposits and did so in a country that was a member of the European Union -- one of the world's major economic blocs.


The impact on Cyprus is more than Russian mafia money being taxed. All corporations doing business in Cyprus could have 20 percent of their operating cash seized. Regardless of precisely how the Cypriot banking system is restructured, the fact is that the European Union demanded that Cyprus seize portions of bank accounts from large depositors. From a business' perspective, 100,000 euros is not all that much when you are running a supermarket or a car dealership or a construction company, but this arbitrary level could easily be raised in the future and the mere existence of the measure will make attracting investment more difficult.

The more significant development was the fact that the European Union has now made it official policy, under certain circumstances, to encourage member states to seize depositors' assets to pay for the stabilization of financial institutions. To put it simply, if you are a business, the safety of your money in a bank depends on the bank's financial condition and the political considerations of the European Union. What had been a haven -- no risk and minimal returns -- now has minimal returns and unknown risks. Brussels' emphasis that this was mostly Russian money is not assuring, either. More than just Russian money stands to be taken for the bailout fund if the new policy is approved. Moreover, the point of the global banking system is that money is safe wherever it is deposited. Europe has other money centers, like Luxembourg, where the financial system outstrips gross domestic product. There are no problems there right now, but as we have learned, the European Union is an uncertain place. If Russian deposits can be seized in Nicosia, why not American deposits in Luxembourg?

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