The Cyprus bailout deal has a lot of people scratching their heads over what EU leaders were thinking when they came up with it.
As part of a plan to rescue Cypriot banks, deposit-holders in those banks will be subjected to an immediate expropriation of a certain percentage of their savings accounts, the exact amount of which is still being worked out. (Initially, it was 6.5 percent on balances below 100,000 euros and 9.9 percent on those above 100,000.) The government is framing this haircut on deposits as a "tax."
Many market observers are worried about the precedent this sets. After all, what's to stop EU leaders from deciding to do the same thing the next time a banking system in a bigger euro member state needs a bailout?
Those involved in crafting the deal have gone to great lengths to construe Cyprus as a "unique" case, owing to exceptional circumstances.
However, given the increasing trend toward private-sector involvement in bank bailouts in the euro zone and the relatively favorable situation that creates for a country's government debt (as opposed to the approach wherein the sovereign foots the entire bill), depositors elsewhere in peripheral Europe may be less than convinced that it couldn't happen again.
Morgan Stanley analysts Paolo Batori and Robert Tancsa explain in a note to clients, writing, " A successful implementation of this [deposit haircut] programme would certainly be positive for Cypriot government bonds, as the debt trajectory would peak significantly lower than was previously expected, minimizing the risks of any restructuring in the near term."
In other words, going forward, euro zone bank bailout programs may be incentivized to impair depositors.
That is not welcome news for those with deposits in peripheral Europe, but it may be worse for them than just having to worry about the next time a banking system has to get bailed out.
According to a report by Goldman's European banking analysts, led by J ernej Omahen, the Cyprus bailout deal means depositors have to cope with a whole new risk: savings accounts emerging as a new tax base for future wealth taxes in Europe.
"A depositor in a peripheral bank is likely to ask the obvious question: how likely is a deposit tax for me?" says Omahen.
The Goldman team writes in the report:
Cypriot deposit tax is certain to require depositors in GIIPS banks to assess two issues: (1) the probability of savings being used for bank clean-ups (“bail-in”) and (2) perceiving their savings as a potential base for a “wealth tax”.
In our view, the “bail-in” risk is unlikely to rattle periphery depositors at this point – after all, Cyprus is late in addressing its bank issues. Elsewhere on the periphery, especially in Spain and Ireland, depositor risk perception of banks has improved; deposit inflows have materialized. Perceiving deposits as a base for potential taxation, however, is new; the scope/duration of its impact hard to gauge.
Goldman expects the read-across for Irish, Portuguese, and Italian banks to be relatively small.
However, Greek and Spanish banks could have issues, according to the report:
Greece: the read-across is not clear cut, in our view. There is an argument to be made that risk-aware depositors have already moved their deposits away from Greek banks, leaving solely the “sticky” residual in the banks. However, close ties between the two countries, as well as deposit flow to Cyprus during Greek crisis peaks, could form an argument for a re- start in deposit outflows, in our view. Perceiving deposits as a potential tax-base could add to the volatility.
Spain: similar to Ireland, a depositor is also likely to interpret the Cyprus deposit tax as something that could have happened in 2012 – but didn’t, in our view. Post the (external) stress-tested and considerable recapitalization in 2012, deposit flows have turned positive, suggesting confidence has returned.
However, the last leg of Bankia recapitalization, which involves conversion of preference share holders (mostly retail) into common equity holders, will take place over the course of March. From a timing perspective, this substantial transaction is likely to coincide with the Cyprus crisis, potentially invoking unwelcome parallels.
The table below shows how much each peripheral euro area country could raise from a "wealth tax" on deposits similar to the one being applied in Cyprus.
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