The crisis in Cyprus is said – by practically everyone – to reveal the deep flaws in the single currency. This is true. But that isn’t a particularly interesting insight. Almost everything that happens these days in some way reveals those flaws.
MoneyWeek readers will also be bored of hearing about capital controls. We’ve been saying that they would soon return to Europe for several years now and Cyprus makes it clear that not all euros are equal. Some get to move around freely and others do not – it depends where the bank you keep them in is domiciled.
What is interesting about Cyprus is the way in which the last few weeks have finally led to some conversation about the manner in which bank deposits are protected across the Western world.
It has been taken for granted, since this latest episode in the very-slow-motion endgame of the eurozone, that it is an utter outrage for a state anywhere to ask depositors to ‘bail in’ banks. In Europe, all deposits up to €100,000 are supposed to be fully protected and – until Cyprus – everyone assumed that larger deposits were too.
But why is it such an outrage? After all, as Martin Wolf points out in the FT this week, there is nothing magical about banks: they’re not vaults, they are “thinly capitalised asset managers that make a promise – to return depositors’ money on demand and at par – that cannot always be kept”.
Give a bank your money and you risk losing control of it – it becomes a bank asset rather than your asset. The existence of the depositor guarantee, be it implicit or explicit, could be seen as a form of government interference into what should be private business.
You could also suggest that it caused much of our problem in the first place. Banks with an effective guarantee that they will be bailed out lend more, take more risk, get bigger and pay themselves more. Shareholders with the same guarantee will let them. And depositors? They’ll chase the highest interest rate possible without the barest of nods to credit-worthiness.
It is also in good part the thing that has shifted the bad debt of the banks of Europe onto taxpayers. Deposit guarantees shift the onus of responsibility for failed banks from lenders to the sovereign state in which that bank is domiciled; a nasty linkage which seems, in retrospect, a little silly.
This is all part of what should be a discussion about how much harm we create in markets with the interventions we make to protect people from those markets. I don’t expect to see deposit insurance cancelled any time soon (and given the contagion possibilities, now might not be the time to talk about it much more).
But Cyprus, horrible as it is on a human level, has done something useful. It has made it clear that the EU can’t take responsibility for every failed bank in Europe and that no indebted country can take responsibility for every failed bank on its soil. So it is the original lender who has to take the hit. It’s disappointing of course, but in the end, you just can’t regulate risk away.