Europe's drive to rescue Cyprus risks undermining a region-wide deposit guarantee plan, a key tenet in the battle to contain the debt crisis, and casts doubt on the ability of the weakest lenders to retain deposits.
Finance ministers reached an agreement on March 16 to force depositors at Cypriot banks, including those with less than e1/4100,000 ($129,500), to share in the cost of the latest euro-area bailout. If approved by the country's Parliament, that could undermine policy makers' plans to harmonise national deposit insurance programs as they try to restore confidence in Europe's financial system.
While Cyprus makes up less than 0.5 per cent of the 17-nation euro economy, the move to tax bank accounts raises the spectre of a slow withdrawal of deposits from banks in other European countries perceived as being at risk, money managers and analysts said.
"This will be the death knell for an EU Common Deposit Guarantee scheme," Roberto Henriques, an analyst at JPMorgan Chase & Co in London, wrote in a report to clients.
"With this action, one of the stabilising instruments will have been completely undermined in the current process and, in the future, we may see a very strong reaction in deposit flows in the event that a banking sector may experience stress."
European leaders are working toward a June timetable to set minimum standards for individual deposit guarantee plans at the 27 member states, a key part of the proposals for a banking union that places regulatory authority in the hands of the European Central Bank.
"It is very clear in the commission text that savers who are covered by deposit guarantee schemes, because they have deposited less that e1/4100,000, should be excluded from the scope of any bail-in," said Vicky Ford, a United Kingdom Conservative member of the European Parliament who is working on the law.
Cyprus's depositors aren't covered by deposit guarantee rules because the state is insolvent, German Finance Minister Wolfgang Schaeuble said on Tuesday on Deutschland Radio.
"The media falsely created the impression that deposits are not safe in other countries," Schaeuble said. "They are safe, though only on the proviso that the states are solvent."
Schaeuble said that Germany put pressure on Cyprus to impose the tax in exchange for a e1/410 billion loan. "Naturally, the Cypriot president tried to find a way around it, but there was none and so we said if this program is to be realised then this financial contribution is necessary," Schaeuble added.
Cyprus's Parliament was to vote on Tuesday on the agreement, which includes a one-time tax on depositors of e1/45.8 billion. Under the March 16 deal, account holders with deposits below the insured amount of e1/4100,000 will be taxed at 6.75 per cent, while those with more face a 9.9 per cent levy. Those rates will probably be amended to ensure a higher burden falls on those with deposits of more than e1/4100,000, European finance chiefs said in a statement last night.
The deal "created a perception around potential action in Spain and Italy and placed banks in the periphery in a vulnerable position," said Elena Ambrosiadou, who relocated her $1.4 billion hedge fund Ikos Asset Management to Cyprus from London in 2005. "The overall result was an indication of serious weakness within Europe. I do not think this is the impression they wanted to give, but this is what people understood."
Borrowing costs in other debt-strapped nations rose. Italian 10-year bond yields climbed two basis points on Tuesday to 4.66 per cent in early London trading after a four basis-point jump on Monday. The rate on similar-maturity Spanish yields increased two basis points to 4.98 per cent, a six basis-point rise this week. The yield on German two-year notes on Monday dropped below zero for the first time since January 2.
The bank tax in Cyprus was an alternative to imposing losses on senior bondholders, a step that was opposed by the Cypriot government, the European Commission and the ECB, Schaeuble said on ARD television on Sunday night. Forcing bondholders to take losses would make it impossible for some euro-region lenders to issue bonds in the future, analysts said.
"This has broken the seal on guaranteed deposits," said Ronny Rehn, an analyst at Keefe, Bruyette & Woods in London.
"It won't make it easier to reach an agreement on a guarantee scheme. In the meantime, if we get to another bailout stage the reaction of depositors could be more volatile. This precedent doesn't help," Rehn said.
If approved, the Cypriot tax would mark the first time that consumer bank customers have been forced to take losses since the euro-area crisis began, raising the possibility depositors will move their savings out of lenders in peripheral Europe.
"A taboo has been broken," UBS analysts Thomas Wacker and Mads Pedersen wrote in a note. "We are convinced that a number of further banks in the eurozone will face asset quality and capital issues in the next 12 months. These cases will likely be intensified by depositors being more inclined to withdraw deposits fast, and thereby increasing the likelihood for a bank requiring external support."
Policy makers working on the bank resolution regime must decide whether depositors should rank higher or equal to bondholders in future bank failures. In Cyprus, senior bondholders will see no decline in value of their holdings.
That "runs completely counter" to the purpose of EU legislation on deposit guarantees, according to Elisa Ferreira, the member of the European Parliament leading work on the bank recovery and resolution directive for the Socialist group.
"We are calling for a depositor preference so that depositors would be the first to be repaid in an insolvency and would be bailed-in after senior creditors in a resolution," she said. "What has been done goes completely against the spirit of the commission's proposal on bank resolution."
European policy makers said Cyprus is an exceptional case because of the high proportion of non-resident deposits and the size of the banking industry relative to gross domestic product. Cypriot banks had e1/468.4 billion in deposits from clients other than banks at the end of January. Of that, e1/421 billion, or 31 per cent, were from clients outside the euro area, 63 per cent were from domestic depositors, and seven per cent were from other nations within the euro region, according to data from the Central Bank of Cyprus.
Deposits represented 172 per cent of Cyprus's GDP at the end of 2012, compared with 69 per cent in Germany and 58 per cent in Italy, where a tax on individuals' wealth has been touted by lawmakers as a mechanism to reduce the debt-to-GDP ratio.
Italy used a special tax on deposits during the 1992 exchange rate crisis. When speculation circulated in 2011 that former prime minister Silvio Berlusconi's government would introduce similar measures, many feared they would spark a bank run, causing the government to deny it was considering any such policy, Erik Jones, head of Europe for Oxford Analytica, said.
"The Cyprus parliament must oppose any measures to put this so-called tax on depositors under e1/4100,000," said Sharon Bowles, chairwoman of the European Parliament's Economic and Monetary Affairs Committee. "If they don't, it calls into question everything the EU has been trying to do to protect ordinary depositors and taxpayers from bank failures."
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|Publication:||Khaleej Times (Dubai, United Arab Emirates)|
|Date:||Mar 19, 2013|
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