John Lennon’s best line in a lifetime of song-writing was “life is what happens when you’re busy making other plans”. I had planned today to write about the excellent Atlantic Monthly The Economy Summit 2013 conference I spoke at in Washington on Wednesday, where it seemed that senior figures in the US were finally starting to realise that private debt, not public, was the main game in a debt-deflation.
Then “I read the news today, oh boy”. I woke at 4am on Sunday to the news that the EU has confiscated 10 per cent of depositors' funds in its 'bailout' of Cyprus, in a move that will raise around €6 billion. Lennon didn’t go far enough. It seems political suicide is also what happens when you’re busy making other plans.
Now, Cyprus is racing to prevent a possible meltdown of its financial sector with parliamentary negotiations that aim to reach a compromise which will enable the bailout to pass, as its two largest banks are rapidly running out of money.
If there was one lesson that I thought the world had learnt from the Great Depression, it was the need to guarantee depositors’ funds. So much for that fantasy. Now the EU has shown that its obsession with austerity has gone so far that even this historical wisdom has been abandoned. Not only are depositors’ funds not guaranteed, they are being lost even in banks that have not (yet) failed.
Many banks are likely to fail however, if depositors come to believe – as this action gives them every right to believe – that their savings are not safe in banks. The public’s first response will be to no longer trust the digital ones and zeros in their bank statements, and to demand their funds in cold, hard cash. The only way to do this is to front up at the bank, present it with a withdrawal equivalent to the deposit balance, and wait for the teller to count out the notes.
The public will be waiting a while: the cash currently simply doesn’t exist. Currency constitutes only a tiny percentage of the aggregate money supply – whether defined as that found in bank at-call cheque and savings accounts (M2), or including term deposits and other not-at-call accounts (M3). If everyone wants it, then only one in twenty will get it, if Europe’s figures are at all comparable to America’s (see figure 1). That’s why a collapse in confidence in deposits is called a bank run: only those who run first to the bank get their money.
Figure 1: Currency is only a fraction of the money supply
Only Cypriots – and Russians, who apparently put substantial funds in Cyprus, probably in search of either a safe haven or high returns (that’s one trivia question I don’t know the answer to) – have an immediate motivation to demand cash, but they won’t be able to, thanks to a 'bank holiday' in Cyprus on Monday, and withdrawal restrictions from Tuesday on. But what about depositors in the other Mediterranean states – in fact, anywhere other than Germany? I can’t imagine them not queuing at their banks on Monday, and in large numbers.
With the inability of individuals to freely withdraw funds will come a political credit crunch. Commerce relies upon the easy transfer of funds from buyer to seller. Companies can’t have these restrictions imposed on their accounts without causing commerce to grind to a halt, but surely their suppliers – particularly tradesmen and small businesses – are going to demand cash payments in future. What happens when companies start demanding cash from their banks, rather than relying upon e-commerce?
What will happen to e-commerce after this? Would you trust the swipe of a card for a cappuccino now, or would you demand coin – even if they were euro coins? And what on earth will money markets make of this? What will a euro be worth on Monday morning?
Goldbugs will rejoice, I am sure – here comes the currency apocalypse they have eagerly anticipated. The Bitcoin community is going to rejoice as well – theirs is one form of e-commerce that is likely to prosper after this insane act. The great attraction of Bitcoin is that it is the creature of no state, and therefore it can’t be confiscated by one.
There will be political demands for the return to national currencies: better the national state you can control than the supra-national state that controls yours. I can’t think of any other act that could do more to bring the euro to an end than the news that a country has had 10 per cent of its deposits confiscated, because that nation was foolish enough to cede the right to issue its own currency to the European Union a decade ago.
This will also surely stir the Russian Bear. I have no idea which Russians have funds that are now being used to bailout European banks, but I doubt that Vladimir Putin will take kindly to this effective seizure of Russian assets. Putin certainly has to act: his strongman image in Russia would be in tatters if he does not.
What might his comeback be – turning off Russian gas supplies to Europe perhaps, until Russian depositors are repaid? And probably in dollars rather than euros? What then in Europe, if strongman tactics force compensation for Russians, but none is forthcoming for Cypriots?
The most ominous political portent lies in the legitimacy this will bestow on the Far Right. This betrayal of the people of Cyprus by its politicians and bureaucrats will be seized upon by the fascist (and leftist) parties throughout Europe. The centrist parties whose politicians and bureaucrats have insisted on depositors contributing to a bank bailout to appease German voters have just thrown the centre away.
Gawd knows what the long-term consequences will be, but if I had to identify one single act that could lead to a rerun of the political chaos of the 1930s in Europe today, this would be it. I began this post with John Lennon. Maybe the story will end with the resurrection of Vladimir Ilyich Lenin. But in the interim I expect that the Right – and most immediately, Golden Dawn in Greece – will make the most political capital out of Brussels’s incredible folly.
I’ve written this quite literally 'up in the air' – flying from Washington to Los Angeles – wondering what else will have occurred by the time I touch down. Surely there will be further reaction by Cypriots and demonstrations elsewhere in Europe by both Left and Right. These might cause some backdown by the idiot bureaucrats and politicians who forged this plan, but even then it will be too late: the damage to the credibility of the euro and the entire European banking system will already have been done.
Monday is going to be a very interesting day in Europe. And Tuesday in Cyprus? I would not like to be a bank teller on that day.