Look out for the Cypriot haircut

Last updated 05:00 24/03/2013

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OPINION: Imagine waking one Saturday morning to learn that a new law was going through Parliament which would allow your bank to help itself to between 7 per cent and 10 per cent of your bank deposit to help pay the country's debts.

To make matters worse, if you wanted to react (and of course you would) you couldn't, because the banks were closed for a Bank Holiday.

And just in case there was a bit of a bank run (and why wouldn't there be), the government was going to extend the Bank Holiday a day or so to give them time to convince you this decision was in your best interests. While this scenario sounds so fanciful as to be a bad dream, it is exactly the scenario that Cypriot citizens faced last weekend.

As you can imagine, markets and commentators reacted immediately to what many referred to as government theft, made worse because it was dressed up as a "tax" that was going to be grabbed from the supposedly safe confines of a bank.

The most voiced question was: "Is this an exceptional situation or could savers in other developed economies suffer the same fate?" And doesn't this decision make a mockery of the deposit guarantee that was in place and the promise from the European Central Bank to do "whatever it takes" to make things better?

Most had assumed that meant using its own money not that of citizens.

Others questioned the motivation behind the proposal, suggesting that it was entirely political. Germany is facing an election shortly and doesn't want to be seen as weak in paying out more bailout money than is necessary to a country whose woes are entirely of its own making.

Cyprus accounts for less than half a per cent of the 17-nation euro economy, so is an easier target for Germany to play tough with. Cyprus is also unusual in that its banking system assets are about five times the size of the economy, so a deposit tax makes more sense than the bond buyback approach which has been used elsewhere.

But unusual or not, this is the first time that depositors in a developed economy have been asked or required personally to help finance a bailout.

As it happens, the proposal was voted down resoundingly and European leaders have gone back to the drawing board. Even though there was some last-minute tweaking to exclude small depositors, who were the most outraged, it still didn't make it through.

You have to wonder what the politicians were thinking in putting the wind up savers the world over.

There are a couple of (albeit minor) positives to be taken from this whole episode. One is that savers around the world have had a real reminder that there is no such thing as a truly risk-free asset.

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We've also been reminded of the importance of diversification - and no, that doesn't mean money under the mattress. Also, the fact that markets took this latest European shock in their stride says a lot about how far we've come in the last couple of years.

- Sunday Star Times


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