Receiving Wide Coverage ...
Cyprus: Bailouts? Been there. Bank runs? Done that. But the European rescue package for this Mediterranean island has introduced a cruel twist: Making depositors pay. All depositors. The proposed one-time "stability levy" would not only take 9.9% out of uninsured deposits above 100,000 euros, but also 6.75% of insured deposits below that threshold, no matter how small the savings. This detail sparked panic, as Cypriots queued up at ATMs over the weekend to withdraw as much cash as they could (the "stability levy" was helpfully announced at the beginning of a three-day religious holiday on the island), and outrage. The FT's Wolfgang Munchau calls the plan "a wealth tax with hardly any progression. … If one wanted to feed the political mood of insurrection in southern Europe, this was the way to do it. The long-term political damage of this agreement is going to be huge. In the short term, the danger consists of a generalised bank run, not just in Cyprus" but across the continent. It would be rational for depositors in countries with shaky finances, such as Italy, Spain or Portugal, to withdraw their savings because "the Cyprus rescue has shown that the creditor nations will insist from now that any bank rescue must be co-funded by depositors," Munchau writes. One Cyprus bank employee told the U.K.'s Guardian newspaper, "There's a feeling they're trying this on us before they do it elsewhere." As a consolation prize of sorts, depositors in Cyprus will get equity in their banks. Why are they being "bailed in" rather than bank bondholders? Because there aren't any bank bondholders, or hardly any; Cypriot banks have very little senior debt. (Though those few bondholders "aren't being touched," apparently because "the German government [influential in the EU] was determined that the Cypriot rescue should not be seen by German taxpayers as in effect rescuing Russian money launderers with deposits in Cyprus," writes the BBC's Robert Peston.) This brings us to the broader significance of Cyprus, aside from the usual contagion stuff: The importance of long-term senior debt in a bank's capital structure. Former FDIC chairman Sheila Bair has called attention to the declining issuance of such debt by U.S. banks relative to deposits and other short-term borrowings. Among other problems, she wrote in Fortune in December, "Replacing long-term debt with deposits … increases the government's exposure if the banks get into trouble again, shifting risk from private bondholders to the government." In a comment letter to the Fed almost exactly a year ago, Bair (along with MIT's Simon Johnson, Stanford University's Anat Admati and Wharton's Richard J. Herring) called for a "mandatory proportion of unsecured debt" in a bank holding company's funding mix to help absorb losses. The Cyprus debacle may support this school's argument. Meantime, Cyprus' government is scrambling to renegotiate the deal with Brussels to shift more of the burden to the larger depositors as financial markets freak out.
As for the "reason" given that the German would not accept the bail out of Russian laundered money, I can understand it from a political short term perspective, but was I completely naive but I though banks were meant to seek and eliminate money laundering. Were these banks in Cyprus aware that all this cash was laundered? Were politicians in Nicosia (and in Germany) aware of this? If everybody seems to know, how could you explain they did not?
The consequences of this irrational regulatory exuberance will in any event increase for the foreseeable future the market uncertainty and that by itself will cost everyone a ton of money!