Don’t like a tax on Cypriot depositors? No problem – we’ll pretend to scrap it.

It got too much play. The proposal to levy an across-the-board tax on deposits in Cypriot banks, for good reason, was being called theft.

So in order to quell the uprising and avoid setting a precedent everyone around the world could fear, Cyprus has agreed to a deal different only in semantics.

Here is Reuters:

Swiftly endorsed by euro zone finance ministers, the plan will spare the Mediterranean island a financial meltdown by winding down the largely state-owned Popular Bank of Cyprus, also known as Laiki, and shifting deposits below 100,000 euros to the Bank of Cyprus to create a "good bank".

Deposits above 100,000 euros in both banks, which are not guaranteed under EU law, will be frozen and used to resolve Laiki's debts and recapitalize Bank of Cyprus through a deposit/equity conversion.

The raid on uninsured Laiki depositors is expected to raise 4.2 billion euros, Eurogroup chairman Jeroen Dijssebloem said.

Laiki will effectively be shuttered, with thousands of job losses. Officials said senior bondholders in Laiki would be wiped out and those in Bank of Cyprus would have to make a contribution.

An EU spokesman said no across-the-board levy or tax would be imposed on deposits in Cypriot banks, although the hit on large account holders in the two biggest banks is likely to be far greater than initially planned.

We can all rest assured a tax will not be levied on depositors. Instead, a portion of uninsured deposits will simply be confiscated to pay off debts of a failed bank and raise enough money to satisfy bailout conditions.

Already there has been a limit of 100 euros put on ATM withdrawals. And come Tuesday, when banks are scheduled to reopen, additional capital controls will likely be needed. Parliament has given government the all-clear to apply capital controls if and when necessary.

All these last-minute antics are being categorized as a solution.

I suppose, considering the nature of the eurozone’s previous solutions, it is a solution. After all, they pulled the contagion card again. More precisely, they warned that if these drastic measures were not taken, the inevitable conclusion would be Cyprus withdrawing from the Eurozone.

Ahhh, say it ain’t so. Please no.

Officials are not hiding their motives anymore – they are acting in order to prevent financial market sell-offs. An exit by Cyprus, insignificant when measured by GDP, would open the door for other problem countries to escape the Eurozone, devalue and move towards a meaningful, albeit painful, recovery.

The thing is: any recovery in Cyprus will be painful no matter what. And this deal does very little to ensure depositors around the Eurozone their money won’t also be subject to confiscation. And potential capital controls would serve only to legitimize their concerns.

I suspect the kneejerk reaction of markets could be positive but very short-lived. I don’t see a meaningful difference between the recent deal and the proposals that have shaken markets to-date. I would suspect the Troika, namely the European Central Bank, will need to further maneuver so that Cypriot banks can be recapitalized, freed up to generate sufficient collateral and avoid the unintended consequences of capital controls.

Otherwise, this could all turn ugly very fast.

 

-JR Crooks

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