A push by the so-called Troika (a tripartite committee led by the European Commission, European Central Bank, and International Monetary Fund) to impose a deposit tax on Cyprus-based bank accounts was flatly rejected this week. As the Cyprus government, EU, ECB and IMF try to find a compromise before Monday, the rest of the world is watching closely, even if market action this week does not portray a high level of concern. Still, the Troika’s original proposal should give investors in European senior debt some cause for concern, according to Fran Rodilosso, Fixed Income Portfolio Manager at Market Vectors ETFs, who also believes that the entire process does not bode well for future bank resolutions in Europe’s larger peripheral economies.
“Cyprus has built up its status as a tax haven and its banking system is now close to seven times the size of the country’s GDP. Given that scale, I see no option for the government by itself to bail out the banks,” said Rodilosso. “It certainly seems as though Cyprus is a test case for some new approaches within Europe to keep the costs of bailing out banks away from the taxpayers in other countries, namely Germany. That the very banks in question in Cyprus were largely damaged by the Greek restructuring seems to have had minimal impact on the equation.”
“Upon announcement of the original package, there were legitimate questions of fairness voiced by several different constituencies,” Rodilosso added. “I do not think, however, that Europe would have been pushing for a tax on depositors were the deposits in Cypriot banks primarily those of its own citizens. That is why I and so many others take the skeptical view that the Troika considered Cyprus to be small enough that any resulting volatility in both the markets and among the island’s citizens would not cause wider contagion. So far that assumption has held -- the Cyprus crisis has been relatively contained. From a longer-term perspective, this past week, in my view, it paints a bleak picture about the strength of the Troika’s anti-crisis formula.”