Cyprus and the Rule of Law

There was no particularly good way to resolve the banking mess in Cyprus.  But what worries me about how things played out is that there appears to be no rule of law that applies to bank failure in Europe.  There should be some clear principle that guides a bank resolution - e.g. equity holders and bondholders get wiped out first, then uninsured depositors, then insured depositors.  Or perhaps there is some ratio of pain between insured and uninsured depositors.

It is clear that no such rule exists across Europe (or if it does, it does not enjoy any particular force such that folks feel free to ignore it in real time).  That is the real danger here.  Results, however bad, should be transparent and predictable in advance, which is far from what happened in Cyprus.  Without a rule of law, one gets a rule of men -- in other words, rules are set by individual whim, often based on which government or corporate interests wield the most influence.

Think I am being too cynical?  Here is a detail that was new to me about the depositor haircuts in Cyprus:

A few weeks ago, the Central Bank of Cyprus published a curious set of "clarifications for the better understanding of the resolution measures." The principle of a bail-in—that uninsured creditors should suffer losses before taxpayers are on the hook—turns out to contain a few lacunae. "Financial institutions, the government, municipalities, municipal councils and other public entities, insurance companies, charities, schools, and educational institutions" will be excused from contributing to the depositor haircuts, though insurers later were removed from the exempt list.

Apparently, individual parties are lining up for special exemptions as well (much like connected corporations did with the Obama Administration to get exemptions from early provisions of the PPACA).  Essentially, all bank losses will be assigned to depositors who don't have access to powerful friends in the government.

  • http://profiles.google.com/maruadventurer john mcginnis

    Tad worse than that I am afraid. It has come to light that most of the big money participants in the Cyprus banks KNEW in advance the haircuts were coming and took their money out. The knew because their `friends` in govt/banks told them of course.

    It has also come to light that Cyprus branches in Greece were not included in the nearly three week lockdown of the banking system. So big money was withdrawing funds that the Cypriot could not. Nigel Farage has declared that if you have money in the Eurozone, get it out and he's a Eurozone minister!

  • jdgalt

    The treaty that created the Euro purported to guarantee that this kind of crisis would not happen by making it illegal for the ECB or any member country to bail out another that got into a deficit spiral. By now every member knows that every other's word is worthless.

    I just hope the President has the brains not to drag the US into the mess by trying to rescue Europe.

  • dc

    Warren, go look at the assessments of what the EU did to cyprus on Zerohedge - basically nothing short of highway robbery. The EU is a setup, its a trick - and US banks being preposterously overleveraged over there is NO coincidence.

  • Matt Landry

    There's supposed to already _be_ a system. Insured deposits get redeemed at par, before anyone else gets a cent (and if there isn't even enough money to redeem them, the insurer makes up the difference). Then uninsured depositors. Then bondholders. Then, if there's any money left (and if there's still money left after you pay off the bondholders, in what sense are you actually insolvent, anyway?), equity holders.

    Whichever group is at the window when the money runs out takes a haircut, and everybody behind them gets nothing.

    Segregating payments of an insolvent institution by the category of obligation they represent may not sound "fair" in an objective sense, but it's a hell of a lot fairer than segregating them by the category of the would-be recipient!