The Eurogroup President's statement on Cyprus included the following commitment (my emphasis):
"The Eurogroup continues to be of the view that small depositors should be treated differently from large depositors and reaffirms the importance of fully guaranteeing deposits below EUR 100.000".Ok, so that's the standard line on deposit insurance. Small deposits, including current accounts, are safe from loss because they are 100% guaranteed by government.
Here's the President of Cyprus on the subject (again, my emphasis):
The State would be obliged to compensate depositors in response to the obligation regarding guaranteed deposits. The capital required in such a case would amount to about 30 billion euros, which the State would be unable to pay.Indeed it would not. After all, the reason for the proposed depositor haircut is that the Cypriot government can't afford to borrow even 7 billion euros, let alone 30 billion. Actually the Cypriot government can't borrow at all, really. Its credit rating was cut to junk quite some time ago and the only buyers for its debt now are the same banks that are threatening to implode if they aren't recapitalised.
Tim Worstall thinks that deposit insurance payouts are the responsibility of central banks. No they aren't, at least not in the Euro area. They are the responsibility of member state governments. And the ECB is not going to create money to meet the obligations of member state governments - even when those obligations are mandated by European Union directives, as is the case with deposit insurance. Nor could the Cypriot central bank create the money, either. Euro area member state central banks are subject to the ECB and can only issue money in accordance with its rules and under its supervision. At present it is by no means clear whether the Cypriot central bank will be allowed to continue creating money to fund the Cypriot banks under the Emergency Liquidity Assistance (ELA) scheme: the disastrous "burn the depositors" scheme was agreed in response to an ECB threat to withdraw funding, and although the ECB appears to have backed off from this at the moment, there are still no guarantees that it won't follow through on its threat at some point. Hell would freeze over before the ECB gave permission to the Cyprus central bank to create money to compensate depositors on behalf of the Cyprus government.
So the Cyprus national government can't borrow to meet depositor claims, and it can't print money to meet their claims either. And it has insufficient tax income even to meet current spending obligations, never mind insurance claims. This is not looking good for depositors, is it?
Well, I suppose it could sell some assets. Or, even better, the banks could, so that the Government didn't have to meet depositor claims. The President had something to say about this too (once more, my emphasis):
A proportionate amount corresponding to the deposits of thousands of depositors for deposits over 100.000 Euro, would be led to a vicious cycle of asset liquidation, and these depositors would suffer losses of over 60%. Such an uncontrolled situation would push the whole banking system into collapse with all the attendant consequences.Thousands of small and medium enterprises, and other businesses would be driven to bankruptcy due to their inability to trade.Oh. So liquidation of bank assets wouldn't raise anywhere near enough to meet depositor claims, and would wreck the entire economy. Why on earth are these banks still allowed to trade? However, Cyprus is a rich country - isn't it? At least, according to "genauer" in a comment on FT Alphaville:
Cyprus is very rich. Lots of drilling rights, lots of private wealth to be taxed.Just not as immediate cash on hand.Well, this is not quite what it seems. Taxing private wealth is not as easy as it sounds, especially when most of that wealth is in your financial centre (which is being trashed anyway). Large deposits made by rich foreign oligarchs and multinational corporations to reduce tax liability in other places tend to evaporate like the morning mist when you attempt to tax them. And drilling rights? There appear to be deposits of oil and gas in that part of the Aegean, to which Cyprus claims rights. But it is by no means clear to what extent those deposits are realistically exploitable, nor whether Cyprus really can lay claim to them. Turkey thinks otherwise, and has already made it clear that it will not tolerate any attempt by Cyprus to exploit those deposits. (Turkey of course not only claims those deposits, it claims Cyprus itself.) Egypt also disputes Cyprus's claim.
That the sacred TFEU rights of the (poor) Euro taxpayers should be violated, to smoother rich tax havens, is hilarious.
So not only does Cyprus not have liquid assets, it may not actually have exploitable assets at all. It has some ports that could be privatised - the IMF is keen on that idea. And it has two British naval bases. It could auction those off, perhaps? Well, only if the UK Government agreed, which might be tricky. And I'm not sure how the possibility of Russia or China buying these strategically-important bases would be regarded by the US, which is watching the Cyprus affair from across the Pond with some concern.
The experience of Greece shows that forced sales of state assets to meet government obligations is fraught with difficulties, can be extremely slow and may not raise the expected funds anyway. And the precarious political position of Cyprus, at the gateway of the Middle Eastern melting pot and partly occupied by Turkey, doesn't bode particularly well for foreign investors.
So Cyprus can't borrow, can't print, can't obtain enough money from liquidating bank assets and may not be able to raise enough money from sales of state assets to meet depositor claims. Depositor insurance doesn't look like it's worth much, does it?
But - this is an EU deposit insurance scheme. Surely the EU would step in to ensure that depositors were compensated under the terms of its scheme?
Dream on. Germany has made it clear that a common deposit insurance scheme is simply not up for discussion. No way are German taxpayers going to fund the claims of Cypriot depositors. As "genaeur" puts it:
the national bank guarantees are to be paid nationally,as everywhere else.And this is the heart of the matter. The Eurogroup's "full guarantee of deposits below E100K" is unfunded and therefore untenable. The Cypriot government cannot afford the deposit insurance to which it is committed under the EU Directive, and other states won't help. Cypriot deposits are not guaranteed and it is positively evil of the Eurogroup to give depositors the impression that they are.
The proposed deposit haircut of 6.75% for deposits under 100,000 Euros looks harsh and unfair. And indeed it is. But not because deposits were ever "safe". Compared with the alternative - bank failure, sovereign insolvency and unrecoverable loss of most of their money - this was a good deal for small depositors. And it may still be improved.
What is harsh and unfair is that depositors have been led to believe that small deposits were guaranteed, when the supposed "guarantee" is not worth the paper it is written on. In the Eurozone, deposit insurance is only as good as the ability of the sovereign to honour it. If the sovereign cannot honour it, it is worthless. And that is the situation not only in Cyprus, but also in Greece, Portugal, Ireland and possibly Spain. None of these sovereigns could borrow, print or otherwise raise the money to meet claims under the EU's deposit insurance scheme.
It is time that depositors were told the truth. The lack of a common deposit insurance scheme in the Eurozone means that deposit insurance is a luxury available only to those countries that can afford it - which are also the countries that least need it. Everywhere else, it is a sham.
Sowing the wind - Coppola Comment
Gas in Cyprus - how much of a guarantee? - Nick Butler, FT (paywall)
Cyprus bailout: Welcome to another Great Depression - Tim Worstall, Forbes (annoying video ads)
Doubts over Cyprus gas bonanza - Guardian
Cyprus, Fight Club & Capital Controls - Pawel Morski. Read his previous two posts on this, too.
EU single market: deposit guarantee schemes - European Commission
Privatization of Greek assets runs behind schedule - NPR
Wanted: EU banking union as Cyprus kills off deposit insurance dream - Euromoney
Plus the entire FT Alphaville series on Cyprus, which is brilliant.