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Cyprus 'Breaks the Bank'
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(March 29, 2013) “Welcome to the year-round island. Enjoy a tour around Aphrodite’s Cyprus. The Mediterranean island at the crossroads of three continents, where there’s always a new world to discover. Where East meets West and a new experience awaits for you under the sun everyday.” - From the official website of the Cyprus Tourism Organization
The island of Cyprus, in the far Eastern part of the Mediterranean Sea, just south of Turkey, has long been known as a prime vacation destination. Over the past two decades it has also become a popular place for foreign nationals, especially Russians, to park money safely and securely with a minimum of questions asked. During this period deposits rolled in, swelling the little island’s banking system beyond all recognition. Bankers there of course had to do something with all the funds coming in, and the short story is that risky bets, including too much exposure to Greece, took its toll. As has been all over the news lately, today many banks there are on the brink of insolvency.

To bail them out, the European Union and the IMF came up with a rescue proposal: tax the depositors of the Cypriot banks, down to even the smallest amount. The idea was the EU/IMF would provide aid, but only if depositors with less than 100,000 euro in the bank would pay a tax of 6.75% towards the bailout, with depositors with accounts over that amount paying 9.9%.

There’s nothing like the prospect of a ‘tax’ on money deposited by individuals in banks to put a scare into savers. ATM machines in Cyprus worked overtime all this past weekend as people were desperate to get as much money out as possible. Individual’s deposits in Cypriot banks were supposed to be insured against loss, up to 100,000 euro, much as our FDIC insures US bank deposits up to $250,000 per individual depositor. But with this proposed 6.75% ‘tax” (read: confiscation) on even the smallest depositors, a panic set in. And no wonder.

The solution that was proposed for this banking crisis in a country of some one million residents seemed to combine the worst of all worlds: a ‘tax’ on all bank deposits, even those supposedly insured, and no losses whatsoever for investors who owned the bonds issues by those profligate banks.

But Cyprus’ Parliament voted no to this proposal, which, if approved, would have enabled the European Union and International Monetary fund to bail out Cypriot banks. Not one member of the Parliament voted in favor, with 36 voting against, and 19 abstaining.

BBC Europe reported on 3/19:

German Finance Minister Wolfgang Schauble said he "regretted" the vote and that Cypriots must understand ECB aid was contingent on a reform programme."There's a danger that they won't be able to open the banks again at all," he said. "Two big Cypriot banks are insolvent if there are no emergency funds from the European Central Bank."

Of all the blows to the reputations of banks worldwide, none could be more frightening than the idea that a government authority would decide that the easiest route to restoring solvency to a shaky bank would be to give a haircut to its depositors, extending down even to those who had sums in these banks much less than the supposedly ‘insured’ 100,000 euro level. Of course, this was Europe where this desperate idea was nearly put into action, but the immediate thought that occurred to many in the US was, could this happen here?

Earlier this week, an email sent out by veteran precious metals promoter/opiner Jim Sinclair set off the US blogosphere reaction to the Cyprus banking crisis. This Sinclair quote was emailed by jsmineset.com on March 19th:

"If people believe that $13 billion is the total of this bailout, they are out of their minds. $130 billion is not the true total of even the Russian deposits in Cyprus banks. One important Russian businessman, in his various business enterprises, would have $100 billion on deposit himself. 10% of all deposits in Cypress could be $500 billion or more because Cyprus is the banking entity for Russia, not Switzerland or Grand Cayman.”

As of Thursday, 3/21, business on Cyprus has almost come to a halt: checks and credit cards are not being honored, ATMs are being refilled daily, but banks are closed entirely. In order to get the required EU/IMF bailout, Cyprus has to raise some 7 billion euro. The latest plan is that this will be accomplished by a combination of privatizing some industries, increasing both corporate taxes and taxes on capital gains, and selling bonds to a “investment solidarity fund.” Russia is also being asked for help with a 2.5 billion euro aid package, with rights to some offshore Cypriot energy fields being used as bait to reel in Russian help.

All this negotiating and proposed solutions are being put together in frantic haste - day-to-day, even hour-to-hour. If no solution is found by this weekend, on Monday current EU aid in propping up Cypriot bank is supposed to end. Should that happen, it is likely that at least two banks will go belly up, and also that Cyprus will soon thereafter exit the euro entirely.

- In the end, an agreement was reached with the EU/IMF for a bailout for Cyprus' banks. Some will fail, or be merged, but deposits up to 100,000 euro will be protected, with deposits in excess of this figure likely to take big losses.

On Thursday 3/28, banks in Cyprus finally re-opened under limited hours, and on Friday were open all day. Orderly lines formed to withdraw funds to the limits allowed, but there was no sign of panic.

Cyprus’ economy is now primarily a cash economy, with an imposed limit of 5,000 euro per month per credit or debit card. The country’s second-biggest lender, Cyprus Popular Bank PCL, is being merged with the largest, Bank of Cyprus CPL. Depositors with more than 100,000 euro in their accounts are likely to suffer what the Wall Street Journal called “huge losses.”

In Cyprus, merchants are having to pay suppliers in cash, due to heightened credit uncertainties, and the fact that checks are just not yet viable. The stores that have stayed open are thinly stocked, and many have not opened at all in the past few weeks. Port deliveries to this import-dependent nation have ground to a halt. The long-term ramifications of the bank collapse in this tiny country’s economy are uncertain.

If there are broad lessons to be taken from this crisis, the first is that un-insured bank deposits are called that for a good reason. The act of parking money in banks without protection is risky. This harkens back to the lesson that we learned from Iceland a few years back – whenever a country’s banks are over-stuffed with deposits - due to the attraction of relatively higher interest rates being offered, or the reputation that that country’s banks offer a reassuring veil of secrecy - those banks come under a great deal of financial strain as they hustle to invest or lend those swelling deposits somewhere, anywhere.

Here in the US, we have become accustomed to the concepts of ‘too big to fail,’ and the general belief, born of the crises of the past few years, that our government will always provide a benevolent ‘no-fault’ financial insurance to one and all. Slowly, and almost accidently, it has become our federal policy that no large financial institution should ever suffer a fatal loss, because the Treasury and Federal Reserve can always provide the capital to prevent that from happening.

But the banking collapse in Cyprus followed a different scenario, with lessons to be learned by one and all. And it's not likely that the phrase ‘safe as money in the bank’ will be said in seriousness anytime soon.

 

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