"Betray Your Bank Before Your Bank Betrays You"

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From Jonathan Weil of Bloomberg

Betray Your Bank Before Your Bank Betrays You

What’s a Slovenian with several hundred thousand euros in the bank supposed to do? Spread it out among at least a few different banks, that’s what. Or move the money out of the country, while it’s still possible.

Imagine what must be on the minds of any savvy depositors still left at Nova Kreditna Banka Maribor d.d., now 79 percent- owned by Slovenia’s government. It was one of only four lenders in October that failed the European Banking Authority’s latest capital-adequacy test, a ritual best known for how lax its standards are. One that flunked was Bank of Cyprus Pcl, where uninsured depositors face 40 percent losses as part of the country’s bailout terms. Another was Cyprus Popular Bank Pcl, also known as Laiki Bank, where uninsured deposits will fare far worse and the bank is being shut.

Cypriot banks’ customers were complacent after uninsured deposits went unscathed in Ireland, Greece, Spain and Portugal, the first euro-area countries to seek international rescues. Slovenians won’t have that excuse should their country be next.

The former Yugoslav republic needs about 3 billion euros ($3.8 billion) of funding this year, while its struggling banks need 1 billion euros of fresh capital, the International Monetary Fund said last week. Slovenia’s central bank this week urged the country’s new government to quickly carry out a plan to recapitalize ailing lenders. It’s a familiar pattern.

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The way it’s supposed to work at failing banks is that shareholders get wiped out first. Next the losses go up the ladder from junior debt holders to senior bondholders, and then all the way to uninsured depositors, if need be. Taxpayers and insured depositors shouldn’t have to absorb others’ losses or put money at risk to spare them. Troubled banks should have to fend for themselves.

This was the approach imposed on Cyprus. In ordinary circumstances, it would be considered fair. The best argument for why it wasn’t is that Cyprus had been lulled into believing it would be treated just as well as Europe’s other bailout recipients. The entire country got hooked on moral hazard.

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The Central Bank of Cyprus warned months ago that the country’s banks needed an infusion of 10 billion euros -- which is more than half the size of the nation’s economy -- largely because of heavy losses on Greek sovereign debt held by Laiki and Bank of Cyprus. It seems a lot of customers were oblivious to the banks’ deteriorating health, or were confident they would be cared for by somebody else. The country is getting a 10 billion-euro bailout, nine months after it first asked for aid, except none of the money will go to the banks.

Suddenly it should be dawning on a lot of Europeans that deposit-guarantee limits matter. In Slovenia, the maximum is 100,000 euros per depositor, the same as in Cyprus. (Deposit- insurance programs vary among the 17 countries that use the euro.) For a few days last week, it looked as if customers at Laiki and Bank of Cyprus would lose even some of their insured deposits, which would have been a sacrilege.

That plan was scrapped, but could resurface elsewhere for all we know should some genius at the German Finance Ministry insist upon it. The one constant among bailouts of euro-area countries is that there is no rhyme or reason, much less fairness, in the way many details get worked out.

Cypriots may bemoan the inequities of their rough treatment, as might a bunch of wealthy Russians who mistook the island for a reliable financial center and failed to yank their money when they could. For the rest of Europe, the implications should be obvious. Anyone who leaves uninsured deposits in a euro-area bank is on notice that their money can and will be taken from them, if that is what’s demanded by the troika of the IMF, the European Commission and the European Central Bank.

Uninsured deposits aren’t riskless. Nor should they be. Still, it’s unclear why the euro area’s central planners sought to create a precedent that encourages capital flight from weak countries. This could lead to more instability, not less.

So far, there have been no signs of a mass exodus in countries such as Italy or Spain. But deposit migrations can happen slowly, with lots of time passing before they appear in official statistics. Or maybe little will change and most bank customers will go on believing “it can’t happen here,” until one day it does.

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