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This septic isle
Being tough on bank creditors could prove costly for northern European
taxpayers
Mar 30th 2013 |From the print edition
THE second deal to bail out Cyprus was much better than the first. For one
thing, there was actually a deal: with the 10 billion ($13 billion) loan the
prospect of the euro zone s first exit has receded. An agreement among
euro-zone finance ministers to wind up Laiki Bank, Cyprus s second-biggest
bank, and restructure Bank of Cyprus, the largest lender on the island, undid
the worst elements of the initial botched agreement. Savers with accounts below
the 100,000 deposit-guarantee threshold will be spared. Losses will hit
creditors of weak banks in line with the normal hierarchy: shareholders and
junior bondholders first, followed by senior bondholders and uninsured
depositors (see article).
About time, many especially the German voters who, it seems, figured large in
the minds of the plan s architects will say. For far too long during this
crisis banks on Europe s periphery have got into trouble and been bailed out by
northern European taxpayers. Jeroen Dijsselbloem, the Dutchman who heads the
Eurogroup of finance ministers, made it clear on March 25th that the Cypriot
deal represented a template: if banks fail, creditors can expect to pay the
whole bill. The principle of moral hazard has supposedly been re-established.
The Nicosia neinfield
But at what cost? The fact that, within hours, Mr Dijsselbloem was back to
calling Cyprus a one-off is a clue. His earlier comments had prompted a slide
in the markets, as investors deduced that the deal had weakened the euro zone
as a whole in three ways that German voters may come to rue.
First, Cyprus itself looks crushed (see article). The collapse of its
oversized, Russian-flavoured banking sector will cause a catastrophic economic
slide one which may need more cash.
Second, the deal allows Cyprus to use capital controls to stop deposits fleeing
the banks when they reopen (on March 28th, with luck). The single currency is
now not so single: a euro in a Cypriot account is not worth the same as a euro
in Greece or Belgium. The euro zone says these controls are temporary, but
Iceland s are still in place over four years after they were imposed. A
precedent for restricting the movement of euros is one that investors and
depositors will not soon forget.
Third, the decision to punish large depositors will also weaken the euro zone.
Whatever the justice of saving Russian money-launderers, the best way to
protect European taxpayers from the cost of cleaning up banks is to give all
short-term creditors reason to stay put. Hitting them will discourage them from
putting money into weak banks in peripheral economies, and make it even harder
to keep sick banks alive in crises. When a run starts it is rational for
others, even insured depositors, to join. The euro area has 8 trillion of
deposits and only 4.5 trillion of annual government revenues: governments
could not guarantee all the deposits even if they wanted to.
Greater instability, coupled with rising resentment of creditor countries in a
stagnant periphery (see Charlemagne), is a bad outcome for northern European
taxpayers. It would have been better to put up a bit more money and push on
with building a better banking system. That means extra capital: large European
banks are building up buffers but are still 112 billion short of the new Basel
3 requirements. It also means putting less flighty creditors in the line of
fire, by adopting an EU-wide resolution regime requiring banks to issue bonds
that absorb losses before big depositors do. And only a full euro-zone banking
union, including a fiscal backstop and a joint deposit-guarantee scheme, will
break the link between weak banks and weak sovereigns. Europe, sadly, is behind
in all these things.
From the print edition: Leaders