M&G's Isaacs: 5 reasons why Cypriot bailout is insane in the brain

Citywire A-rated manager and European corporate bond specialist Stefan Isaacs of M&G reveals what the fallout of the Cypriot bailout measures could be.

Depositors in Cypriot banks awoke on Saturday morning to learn a harsh lesson. A guarantee is only as strong as your counterparty.

With the Cypriot banking system requiring €10-12 billion of bailout funds – some 60% of GDP – the government has been forced to accept burden sharing with depositors.

Depositors who went to bed Friday night believing their savings were safe awoke Saturday to find that it has been proposed that those with deposits below €100k in the bank will be “taxed” at 6.75%; those with deposits above €100k will be “taxed” at 9.9%, contributing approximately €6 billion to the bank bailout in total.

This is regardless of supposed depositor insurance schemes. Depositors will receive equity in their respective banks by way of compensation and potentially bonds entitling those who leave their money in the banks for 2 years to a share of Cyprus’ future gas revenues. The remaining €4-6 billion will likely come from the Troika.

If press reports are to be believed this was a ‘take it or leave it offer’ from the Troika with German and Finnish finance ministers unwilling to go to their respective parliaments without depositor burden sharing.

This highlights the very real current challenges of domestic politics within the European Economic and Monetary Union and raises further issues.

Firstly, there are significant political challenges to be faced.

Domestic opposition to this deal is likely to be significant, not least as it will be seen to be disproportionately harsh on domestic savers – who had believed their deposits were protected up to €100k, and favourable to wealthy non-Cypriot depositors who reportedly hold huge sums offshore in the banks.

It can be argued that those with over €100k in deposits with the banks should bear the brunt of any proposed bail-in.