From the NYTimes,
Under an emergency deal reached early Saturday in Brussels, a one-time tax of 9.9 percent is to be levied on Cypriot bank deposits of more than 100,000 euros effective Tuesday, hitting wealthy depositors — mostly Russians who have put vast sums into Cyprus’s banks in recent years. But even deposits under that amount are to be taxed at 6.75 percent, meaning that Cyprus’s creditors will be confiscating money directly from pensioners, workers and regular depositors to pay off the bailout tab.
I was first told about this situation yesterday by MA who sent me some early information.
It looks to me as if the Cypriot banks lost buckets and buckets of money by "investing" (actually speculating) in what they thought were low-risk mortgage-backed securities up until 2008. Then, in an effort to "stablilize" (i.e. bailout the owners of) the banks, the Cypriot gubmnt bailed them out, all in the name of protecting the depositors.
This sounds much like what happened in Ireland and threw their economy into such a spin. In order to reassure international investors, the gubmnt guaranteed deposits in the banks and in the process also guaranteed the bondholders of the banks. In Ireland, the gubmnt was able to fund the operation through increased taxes, spending cutbacks, and additional gubmnt bond issues.
Cyprus doesn't have these options. The size of their bailout was about the equivalent of a full year's GDP for the country, and they simply could not raise taxes or cut spending enough to cover the bailout.
So they called on the IMF for help. And, no surprise, the IMF looked at the situation and saw no feasible way for the gubmnt to cover any loans the IMF might make to help them out.
One option, for the Cypriot gubmnt to repudiate their debt, surely was considered. But debt repudiation would hurt the banks in the rest of the EU, and those banks and gubmnts likely lobbied the IMF to seek some other alternative.
And that is when they settled on taxing deposits. This policy is horrendous. It is designed to steal wealth from large-depositor Russians who have tried to hide their money in Cyprus, but it will also hurt Cypriot businesses and people who have used the banks to save for (and plan for) their retirements, educations, etc.
My first reaction is "Since when did bondholders ever have a guarantee that their bonds would be repaid in full?" Ask the bondholders of pre-nationalized General Motors; ask bondholders of the Greek gubmnt. Why should bondholders of Cypriot gubmnt bonds or of Cypriot banks be protected from their inability or unwillingness to perform a fairly simple due diligence examination? A bond is not a guaranteed safe investment. Nor should it be.
My second reaction is that not only are Cypriots trying to drain their limits at ATMs, where total withdrawals until Tuesday are limited, but to the extent possible they will be using the internet and other options to prepay their credit card debts. I know that if I had $10K in the bank there, I'd try to put it on my paid up credit card balance and forego the interest income I might have earned in the bank to avoid the tax. But I don't know to what extent this is possible.
In the end, I wonder if this will really happen. The parliamentary vote that was to have been taken today has been delayed until tomorrow.
It was all started in the name of "protecting depositors" in banks that lost a lot of money several years ago. That sure seems ironic.