Cyprus Crisis: Why the Euro Banking Crisis Will Get Worse
Cyprus represents the recognition by the system’s quack policymaking physicians that more than zero interest loans and QE is now needed. The new diagnosis is the patient needs a fundamental new blood transfusion. That ‘blood’ is average depositors’ savings in the banks. Their blood (savings) must be diverted in part in order to provide a transfusion to the banking system itself. But such a medical procedure is not without its risks. That risk is called a ‘bank run’, as depositors refuse to lay down on the central bankers’ operating table and decide to take their money (i.e. life-blood savings) and run.
The significance of Cyprus is that the IMF and the European Commission together decided that a bailing out of Cyprus’ two main banks, the Laiki Bank and larger Bank of Cyprus, would require a 10 billion Euro loan to Cyprus. In exchange, the Laiki Bank would be dissolved completely, and all its depositors would thus lose all their deposited funds—i.e. an old fashioned bank collapse a la the 1930s. For the larger Cyprus bank, initially the IMF and Commission decided small ‘retail’ depositors—i.e. those with less than 100,000 Euros ($130,000) would be ‘taxed’ (i.e. expropriated) at the 6.75% rate. Larger depositors expropriated at 10%.
The 6.75% rate was a direct violation of European Union legal guarantees that deposits up to $130,000 would be insured. So much for legal protections in a banking crisis! Popular protests exploded immediately across the island nation. The initial deal collapsed. Then the cat was really let out of the bag as to what IMF and Commission were really considering. The Dutch Commission spokesman, Joeren Dijsselbloem, the following day publicly stated the Cyprus bank bailout deal would serve as a ‘template’ for future bank bailouts—presumably in the Euro periphery region like Spain, Portugal, even Italy perhaps. That’s when it ‘hit the fan’ as they say. Apparently, secret understandings by northern Europe bankers and central bankers included making ‘retail depositors’, average citizens with small deposits, pay in significant part for the bank bailouts anticipated should the Eurozone banking system continued to deteriorate.
No longer are fiscal ‘austerity’ policies to make average citizens pay (with higher taxes, less services, job cuts, pensions reductions, selling off of public assets) to bail out their governments’ debt sufficient; no longer are monetary policies of zero interest loans and QE to banks sufficient. Now households will in the future pay directly with deposit expropriations. This is a dramatic new phase in determining ‘who pays for the continuing crisis’.
Moreover, the new phase involves not only partial deposit expropriations, but subsequent ‘capital controls’ and limits on bank withdrawals of the rest of the remaining deposits as well. Withdrawal limits in the Cyprus deal were extremely strict. In effect, your remaining money in the bank was still yours, but you just couldn’t get it out except in a dribble. Furthermore, if you did get it out, you couldn’t take it out of the country. All this meant the de facto creation of a ‘two tier Euro system’, with Cyprus Euros worth less than Euros elsewhere—i.e. a de facto decline in the value of the remaining deposits and thus further losses to depositors.
A second deal was eventually made. Depositors with $130,000 or less were now exempt from the 6.75%. And those with more than $130,000 would pay more. How much more has varied according to different estimates. Some are as high as 65% in confiscated deposits.
However much more is of little matter. For deposits now will be drained almost totally from the Cyprus banking system. The banking system that remains will collapse further, requiring still more bail out loans and even more stringent terms. Money will not remain in the Cyprus banks; and money cannot leave Cyprus. It will be hoarded by depositors and businesses alike. The recession in Cyprus in the real economy will rapidly descend into a massive depression.
The greater danger of Cyprus to the Euro and global banking system is a further great loss of confidence in the banking system. The contagion will inevitably spread. Depositors in Italy, Greece, Spain, Portugal and even in northern Europe will no longer trust leaving their deposits in their banks. They will no longer trust the ‘insured deposits’ system. At the first indication of a possible major problem in a private bank—perhaps Unicredit or Monte Dei Paschi in Italy, Santander in Spain, or some Belgium or even French bank (Credit Agricole?)—depositors will not trust that a ‘secret deal’ has not been made. Deposits, lending, and money velocity will decline first in the periphery Euro economies. Perhaps a ‘three tier’ Euro currency system will emerge, with Cyprus and Greece Euros trading in the black market at a fraction of northern Europe ‘Euros’, and with Spain-Portugal Euros somewhere between.
Not just deposit security, but capital controls put in place in the final Cyprus deal will also mean greater distrust that savings might not be moveable from one Euro economy and bank to another. This will mean wealthy depositors and savers in the southern tier of the Eurozone may have a short term incentive to move their money now to northern Europe (Germany in particular) in anticipation of future capital controls.
None of this portends well for the Eurozone and UK economies already accelerating into recession throughout Europe, as a consequence of ‘Austerity’ fiscal policies and QE monetary policies, on the other hand, that only stimulate speculative investing and the profits and wealth of companies and wealthy investors.
To sum up, Cyprus represents a new desperation on the part of central bankers and capitalist policy makers in Europe. The Cyprus debt deal has backfired. It will result in less banking stability. And more real economic depression, job loss and income decline. Cyprus banks and its government will soon require even more loans. The Cyprus crisis and bailout deal will accelerate the decline in confidence in banks throughout Europe, slowly perhaps but nonetheless. Contagion is a psychological process and how and what people think (especially fear) is not easily checked by controls on cross-border flows. The contagion cannot be contained, only perhaps slowed somewhat.
(For a more detailed in depth analysis of the strategic significance of Cyprus to current capitalist policy, read this author’s forthcoming feature article in the May issue of ‘Z’ magazine, ‘Cyprus and Global Banking Instability’)
Jack Rasmus is the author of the books, ‘Obama’s Economy: Recovery for the Few’, 2012, and ‘Epic Recession: Prelude to Global Depression’ 2010. He hosts the weekly radio show, Alternative Visions, every Wednesday at 2pm est on the Progressive Radio Network. His blog is jackrasmus.com, website: http://www.kyklosproductions, and twitter handle #drjackrasmus.