Cyprus Forced Into Bailout Deal

Monetary Metals's picture

Do you think that depositors in Cyprus are being taxed? That their money is being taken from them to go to the government in Cyprus or to Europe? Most analysis of the Cyprus bailout is wrong on this point.

Cypriot banks are like all banks in one respect. They raise capital to buy assets that earn a yield, keeping the difference between what they must pay for the money and what they earn on it. Like all banks, they raise money first from equity investors. Equity investors get to keep all of the gains on the upside and therefore are first exposed to losses on the downside.

Banking uses leverage, which multiplies gains when assets rise and losses when they fall. Imagine using 20:1 leverage. You buy a house for $100,000 using $5,000 of your own money (equity) and $95,000 of borrowed money. If the house rises to $110,000 you have tripled your $5,000 of initial equity to $15,000. If the house falls to $94,000 you have negative equity. That may be fine for a homeowner so long as you can pay the interest and principle when due. It’s not fine for a bank.

Banks raise money next from junior, unsecured creditors. Equity capital is expensive capital. Borrowing money is cheaper than selling a stake in the business. Next on the capital hierarchy is senior, secured creditors. Borrowing at this tier is cheaper because the risk of loss is lower. Not only would the shareholders have to be wiped out first, but also the junior creditors. Additionally, secured creditors can take the assets pledged as collateral.

Finally, banks raise money from depositors. Depositors get the lowest rate of interest, which is the tradeoff for having the strongest position in case of bankruptcy. In addition to not suffering any losses until all other classes of capital are zeroed out, depositors also enjoy a government guarantee today, at least up to a certain amount (€100,000 in the case of Cyprus)—so long as the government can pay. It is important to note that while the government maintains the fiction of a “fund” to cover such losses, in a bank crisis the losses are imposed on the taxpayers. Today in the US, for example, the FDIC has a tiny reserve to cover an enormous deposit base.



FDIC Ratio


In the modern world, government bonds are the key security in the financial system. They are defined as the “risk free asset” by theory and regulatory practice. They are used as collateral for numerous other credit transactions. And banks hold them as core assets. Let’s focus on that. A bank borrows from depositors and buys a government bond (and not entirely by choice). There are two problems with this.

First is duration mismatch. The bank is borrowing from depositors, perhaps via demand deposits, and then buying multiyear bonds. Read the link to see why this will sooner or later blow up.

Second, the government bond is counterfeit credit. Governments are borrowing to pay the ever-expanding costs of their welfare programs and the interest on their ever-expanding debt (it is no help that they lower the rate of interest to keep down the interest expense—this increases their burden of debt and destroys capital). Governments have neither the means nor intent to ever repay the debt. They just endlessly “roll” the liability, selling new bonds to pay the principle and interest on old bonds at maturity. This would be like taking out a new credit card to pay off the old one. It “works” for a while, until it abruptly stops working. It has stopped working in Greece; it will stop working everywhere else at some point.

The Cypriot banks bought lots of government bonds, including the defaulted bonds of bankrupt Greece. They lost the euros that were invested by their shareholders, bondholders, and a majority of what was lent to them by depositors. In a way it is accurate to say that the government took it. However, his taking did not occur this week. It occurred when governments sold them fraudulent bonds over many years.

The money is now long gone.

Call it what you will, the government, central bank, and commercial banks of Cyprus are bankrupt; they needed a bailout—new credit from outside the country to postpone collapse. In a week of drama, posturing, demands, reversals, and a vote in parliament, a deal was struck. No one is likely to be happy. Here are the key points so far as we can glean them:

A fresh tranche of €10B will be lent to Cyprus

Funds to come from (presumably?) the “Troika”: ECB, EC, and IMF

Shareholders and bondholders in Laiki (2nd biggest bank) will be wiped out

Laiki deposits under €100,000 will be transferred to Bank of Cyprus

Larger deposits will bear big losses (not specified at this time)

No bailout funds will go to Bank of Cyprus (presumably to government?)

50% or more of large deposits in Bank of Cyprus converted to equity

“Temporary” capital controls will remain when banks reopen Thursday

CEO of Bank of Cyprus just resigned, fueling rumors it too will collapse

The Europowers have a big dilemma. If they allow euro backwardation to persist much longer, or they open a schism in the euro where Cyprus euros are not fungible, they risk the collapse of the euro. On the other hand, if they do not impose capital controls then depositors would run on the Bank of Cyprus and it will collapse (ZeroHedge has been covering the story that large Russian depositors have found ways to make withdrawals even though the banks have been closed, using branches located outside the country).

We hope that if the reader gets nothing else from this article, at least he now understands that the Cyprus banks lost their depositors’ money over a long period of time. They used leverage to buy assets that collapsed and now they are insolvent. External parties are providing a bailout (which Cyprus will never be able to repay). For the first time in this crisis, the bailout does not cover depositors in full. Losses are to be suffered by not only shareholders and bondholders, but even by depositors. We expect future bailouts to incorporate this feature.

It is good that Eurozone leaders are beginning to assert that banks should fix themselves. In a free market, there is no such thing as a bailout that takes money from taxpayers to give to those who made a mistake. Hopefully they will take this to the next logical step and realize that bank solvency is impossible under the regime of irredeemable paper currency wherein the government bond is defined as the “risk free asset”. Gold is the risk free asset. Everything else has a non-zero risk of default.

We will continue to monitor and publish the gold basis to see when world markets begin to shift away from trusting the banking system, when people are willing to forego a yield to avoid having to trust a counterparty. When this happens, we expect gold to move more significantly towards gold backwardation.

Compared to the first proposal last week, this bailout is less unfair (we can hardly call any bailout fair)—at least shareholders go first, then bondholders then depositors.

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tony bonn's picture

very nice explanation and summary of case..

"...government bonds are the key security in the financial system. They are defined as the “risk free asset” by theory and regulatory practice...."

this practice is a huge error which when coupled with leverage (fractionalism) is a recipe for disaster....this is why banksters and economists are stupid evil always always always fact this was one of the justifications for the federal reserve....this disaster will come to these shores...

anyone who thinks his deposits are secure is delusional.....the s&l losses from the 1980s have not been paid in full - although many were paid but many depositors waited for years to see their money....if anyone thinks that fdic insurance is immediate payment - especially in the case of a liquidation - he is delusional....

the grateful unemployed's picture

isn't this a money velocity problem as well. M1 being hard currency, when there is no flow, nothing comes through the pipe. to put an end to the myth that the Fed is printing money, they only create alternatives (credit) because actually printing hard cash is inflationary, and would destroy their balance sheet. they're all policy and no cash. what about backwardation in the US currency? we aren't that far from negative yield bonds, in which investors pay a premium which is greater than the interest on that bond. coming soon (the Fed likes all this talk about the bond market turning, interest rates have much more to go down)

and of course gold is not consummable, so owning wheat, or gas, would give you something to sell against backwardation. and having pricing power is important. here come the 30s all over again.

Goldmoney's picture

Anthem Blanchard of Blanchard Vault addressed these issues on CNBC yesterday - arguing that this is the inevitable result of a Central Bank-led fractional reserve system where your assets are actually liabilities held by someone else.

You can see it here -

therover's picture

I believe the first sign of SHTF here in the US will be when the scumbags, based on the false pretense of our banking system 'solid, our economy 'sound' and the stock market ' making new highs', is when they lower the FDIC ceiling from 250K back to 100K. 








gorillaonyourback's picture

The day of reckoning has to be on its way.

Onehunglo's picture

And the meek will inheirit the world.

Mister Ponzi's picture

And I always thought depositors rank pari passu to senior bond holders...

AnAnonymous's picture

Thanks for the good, solid, documented explanation.
As expected, and conformly to its purpose, it explains it all.

Signed: an American.

TheFourthStooge-ing's picture

In my little delusional world, I perceive consuming as an activity many enjoy practising. I know no civilization that managed to achieve something without increasing its consumption capacity.

The Chinese Citizenism Communautist Party ganglord is showing us the way in the age of darkness and fear.

Signed: AnAnonymous

shovelhead's picture

How do you make a Huangpu float?


2 scoops of ice cream and 16,000 pigs.

Fuh Querada's picture

"Most analysis of the Cyprus bailout is wrong on this point."
Everyone is saying that now. So where are your exquisite sources in the upper echelons of the EU elite? Are you present at the Politbureau meetings? I think you trawl the internet just like everyone else.

gorillaonyourback's picture

Wow ur stupidity really amazes me. When people start asking for fact checking on common sense you know we r in trouble. Are there people this dumb amung us.

Ill try to explain. One plus one equals two, no source recquired.

Downtoolong's picture

When central money managers can ultimately do anything they want, there is no such thing as a risk free asset. Not even gold, I'm sorry to say, at least not within the boudaries of their domain. They can just tax it or confiscate it when you go to exchange or spend it.

The attitude I see coming from the EU now seems to be, "The Euro must be saved even if we must destroy Europe in the process".



rsnoble's picture

Imagine if Cyprus citizens were armed to the teeth like the US ones are.

the grateful unemployed's picture

americans like to imagine they are well armed, because they have a rusty shotgun in the closet. the gun control debate in america is distraction, like the abortion gay marriage debate, all meant to distract you from the grand theft going on by politicians, corporatins and investment banks, and disappearance of the us constitution bill of rights. the AK47 and the RPG are ubiquitious throughout the world except in america... (its what makes us civilized)

Notarocketscientist's picture

Ya Imagine!!!!

They'd be doing just like the GUNS N AMMO crowd in America - sitting in their mother's basement moaning and bitching on ZH about how they are being fucked - and doing....ABSOLUTELY FUCK ALL ABOUT IT.

Other than sitting on ZH and moaning and wailing...... and bragging about buying more AMMO for their guns!

Keep bending over and taking it hard boys.  After a few times I can imagine it doesn't even hurt anymore - and I hear Bernanke likes to do a reach around so you might even get to enjoy the whole exercise.


Mototard at Large's picture

Savers and takers.  What we are seeing in Cyprus and Spain is unnerving for many people – especially savers.  The new struggle over the next few years will be between the savers and the takers.  The government, the Banks and supra-national organizations are creating new policies that say they can take your savings.

JOYFUL's picture

Though it's far too early for a real post mortem on the "Gyp-riot Gambit, some preliminary observations may be in order…

 As it appears that our very own superhero and Jack Carter style accountancy action figure is either no longer willing or unable* to follow through on his promise to Spit Fact That Burns Down The Sham Formerly Know As The EU Banking System, the systems' temporary reprieve allows us to consider the following:

 At the same time  as Eurocratic spokespersons have craftily thrown fuel on the fire of doubt and insecurity about safety of deposits, several self-appointed experts are beating the drums on both sides of the pond for an imminent housing market recovery = the place to put your imperilled assets once pulled from the bank. Like hunters beating game into the bag, the banksters are flushing retail investment capital into their net, which of course they will devastate in good time. They have also opened up the door to expropriation of the bank-held assets of small businesses, which will be the best means of fulfilling their goal of uprooting the last vestiges of free markets before transferring all of the captured assets into the hands of their capitalist crony controllers. ..  

 This perfect storm will compliment and conceal the parallel push to resolve the stalemate in the Middle East which has seen Syria successfully avoid succumbing to the dreaded "Libyan Liberation disease" - the sionists are desperately aware that their top down control over the political and economic infrastructures of both the developed and developing worlds has reach high water mark...from this point on it only gets harder and harder to keep everything organized and under control. That's where Cyprus comes in. The dual pronged strategy employed by the sionist neocon braintrust was to increase instability in the Eurozone at the same time as offering a bait so big that the mouse could not but bite. But the crafty cheese  Connoisseur in the Kremlin could smell the rancid offering from afar, and refused to nibble. A boat load of major mossad assets across the continent were thrown into high gear in announcing the fearful expropriation of the Mediterranean island as a pawn in the Great Game, and the offshore riches just the same...but it was all for not.

 The smoke and mirrors were deliberately timed to coincide with PUPPET ONE's visit to the 'wailing wall-eyed' troll in Hell aviv...where a theatrically stage managed call to the local sionist sultan in Ankara was put on display for a dupe media to announce rapprochement between Turkey and Israel~!

 This desperate gambit to throw enough of a sop to Erdogan to convince him to return to the ZATO fold instead of wandering the verdant pastures of the emergent East had the added advantage of giving an illusion of solidarity amongst the badly fraying alliance of cryto jewish Arabs and their western controllers\israeli masters...and a rationale(along with the dumb ploy of presenting an image of a hungry Russia devouring the soft  underbelly of Europe)for a speedy insertion of ZATO missiles and warships into the Syria imbroglio. 

 All of this was going on at the same time as the real, as opposed to manufactured news story was developing. The first travels of China's new leader took him in sequence to Moscow then Tanzania...a trajectory truly redolent with import. The recent meeting of the BRIC countries in SA was of course underexposed and misinterpreted by the complicit cabbalist controlled media, but there was no doubting the significance of the affair.

 What we are witnessing is the potential recreation of a new Bandung Conference style non-aligned nations alternative to the hegemony of the Bilderberger\sionazi IMF. A truly threatening alternative...which is why everything hangs in the balance at the moment. Of course there are the usual sionist assets and mossad spies nestled in the heart of the emergent BRICS structure - most particularly South African and Brazil. But the slender opportunity still exists for a major dagger thrust to the heart of the almost completed victory of the moneychangers

*as in, hanging from a meat hook in a disused cold store somewhere outside of Philly...difficult to access your Android device in such circumstances...but perhaps there's an app for that!



Optimusprime's picture

Brilliant.  And "ZATO" is just priceless.

Do you have a blog of your own?

JOYFUL's picture

I have a space which I have promising myself to put online for ever. I have failed to so for the reason best described by a fellow commentator here some weeks ago...who accused me of "intellectual laziness" - the sting of which barb was greatly reduced by recognition of it's accuracy! I seem to lack the firepower to make a regular shot at it...and have fallen into the habit of using the opportunity this great blog provides to attempt to attack my other great weakness, of verbosity...and hone a much desired capablity to put thoughts in coherent order in as short and simple a manner as possible. It's a great honor to do so in front of such an acutely intelligent audience.

My take on recent events is that we are pretty much left on our own now to figure out things and plan a means of survival. The art of political journalism seems to have died long ago* - in it's absence, and in the face of so much disinformation, we need to share our take on current affairs with each other, so as to mutually profit from the cross pollination. IMHO.

*apologies to Pepe Escobar...and a handful of others!

Oracle of Kypseli's picture

I guess the stakes in that poker game are as high as an island with lot's of natural resources.

That verifies that we are deeply into a war of resources.

Farmland in the Andes and a bunch of gold wire is not a bad prep. 

Ghordius's picture

as you understood I'm quite skeptical about that "craftily"

JOYFUL's picture

It's a canuckistani thing...we're so used to getting "hosed" that after a while a hoser either takes a dirt nap or starts to look askance at all perceptual phenomena....UR Uro-skepticism pales beside our (new)worldly wisdom mon liege!

if you would like to fill me in on your Herculean Affair of yesterday...maybe I can be of further assistance...if it involves the 'ice-bound homeland' you can be sure that it stinks of smiley-face fascism...and sooner or later will blow up real good!

tooktheredpill's picture

the article seemed intelligent until the whole "Gold is the risk free asset" thing. Jesus wept.

Ghordius's picture

LOL - can't say I even understood half of it but the way you write surely fires up the synapses

the Hercules Affair? that was before the advent of the internet, and so long forgotten - or should I say buried

it was a time when NATO was still an open arms-bazaar, open to all US/EU countries, and the very scandal that gave the Bilderbergers their bad reputation

basically the Dutch delegation was responsible for taking orders in europe for those airplanes Lockheed_C-130_Hercules and made quite a bundle out of it - at that time it was understood that they worked as "front" for their English counterparts

but please don't call me "my liege"! I know it's a joke from your side, but where I come from it's taken quite seriously

wisdom? wisdom is knowing that even a genius makes constantly mistakes - in sum greater ones than a half-wit - and still can't really predict the future

JOYFUL's picture

Touche! +1

I shall try to remember to remove all honorifics when addressing thee Ghordy! I had forgotten that the real old money types try to play down the rank thing and effect a common touch! U must understand, my contact with the upper classes has been been glancing at best! And if you took my feeble attempt at wit as a effort to insinuate a position higher than my station allows for, I am doubly contrite!

Ghordius's picture

Citizen Ghordius would be a nice title - but of course depending from the heritage it either summons up memories of an excellent movie or of a quite bloody revolution or both

upper class? it's a question of definition - for me anyone is my peer, if willing to be so and utterly below me if unwilling - for Jamie Dimon it depends on how much you make

contrite? you? don't think so ;-)

Solarman's picture

Question is, can China sell enough stuff to the non aligned world and domestically to be a super power?  Remains to be seen IMO.  In the meantime they have basically asset stripped their country, and the pollution is overwhelming.

When global trade collapses, China will collapse alongside it, not unlike what happened in the U.S. during the Great Depression.  Mercantile nations do not survive in that environment.

JOYFUL's picture

With a middle class of 400 million(and growing)consumers, huge increases in agricultural efficiencies, and the ability to lock in cheap(er)energy through the kind of pipeline deals(pre-payment in exchange for equity)that came out of the mentioned Moscow summit, China is positioning itself for what will be (relative to the West) a soft landing in the event of 'collapse'  ...

and when the time comes, all those who scoffed endlessly about the err. wide parameters of the Han Dietary Code(aka Dog Dinner, "Domestic Deer" etc etc,)will be looking on longingly as the slant eyes scarf up their rice n sorghum suppers! We shoulda been stripped down and ready for what's ahead decades ago...but luxury breeds indolence & complacency...which in turn breed contempt for an enemy better treated with circumspection. Pollution is gonna be the least of anybodies' worries.

BandGap's picture

Uh "middle class" in China has a very different meaning than in the US or EU. This is a country when the "average" person spends 50% of their earnings on food. I'd really like a reference to the "huge increases tin agricultural efficiencies" too. Ain't happening.

Pollution is a significant problem. Forget the abyssmal air quality, China has exhausted their fresh water supply like no one's business. And the fresh water that is available at the surface (rivers & streams) is highly contaminated with heavy metals and biological entities that make it unusable without significant treatment.

It may be that China is looking elsewhere for "a place in the sun". But it isn't working at home.

JOYFUL's picture


I stand corrected. The wall to wall, block to block upscale clothing and luxury goods stores I found commonly lining the streets of mid-sized Chinese cities two months ago were after all, a desert mirage...a optical illusion which no doubt further serves to corroborate your thesis of missing water supplies as well. Though I found few indications of an inordinate amount of attention being applied to searching out the next meal, I can now also see that this was likely to have been another 'illusion' - behind my back no doubt there was mass riot and mayhem the the food markets, and ration lines that disappeared from sight when a gweilo appeared on the scene! The incredible lack of noise in these densely populated urban areas, which I had attributed to the absence of noisy internal combustion engines(all the scooters are electric!)and\or the cars being uniformly new model, had to have been a sinister attempt to persuade me that the absence of any kind of visual or olafactory pollution in this places was also a 'false front' ....

I am clearly going to have to look much harder for the truth on my next visit...I had too good a time visiting forested glades and rolling past well maintained pastoral countryside to get down to the business of searching out noxious reality!

China feeds 19% of the world's population using only 8% of the world's arable land. National Bureau of Statistics of China (NBS) China's planted area has increased by 7.5% over the past 35 years. NBS In order to increase productivity without increases in planted area, China ramped up its usage of fertilizers. China uses nearly three times the fertilizer per hectare compared to the U.S., resulting in about twice the production per hectare for rice and wheat. NBS, USDA China's fertilizer consumption grew 741% between 1975 and 2010, driving a 124% increase in grain production.National Bureau of Statistics of China Between 2000 and 2010, China's per hectare fertilizer consumption increased by about 40%, driven largely by increased production of fruits and vegetables. NBS China’s farmers nearly doubled fruit and vegetable production over the past decade. Now China’s fruit and vegetable consumption is nearly at U.S. levels.FAO, NBS Although China’s 2011 staple production already hit 2020 targets, China's policy in the 12th 5 Year Plan is to limit the expansion of planted area for other crops to ensure grain security.NBS, China Ministry of Agriculture, Jefferies China is also growing lots of yuan ...down on China Chumly?


LawsofPhysics's picture

Chemical fertilizers produced via the Haber-Bosch process are extremely energy intensive and not sustainable.  As you point out, China has been "ramping up" that process, good luck with that.

JOYFUL's picture

I had hoped to find the bookmark I had made which detailed the recent most years having achieved significant decrease in all the petro-chemical inputs except herbicides, at the same time as continued production increase...I could not find it in time.

I completely agree that long term those inputs are not the way to go, and prove counterproductive...but the menace of GMO frankenfood production far outweighs that problem in the short term...and for poor Norte Merika(AND soon Europa too it seems!) all one can say is "good luck with that"

LawsofPhysics's picture

"Long term" comes much much quicker when dealing with issues that are impacted in an exponential manner.  These are not linear relationships we are talking about here.