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Psychological effect of Cyprus bailout may be serious: German economist
The parliament of Cyprus on Tuesday rejected a bailout proposal of levying taxes on bank deposits, which has sent the financial market shivering again. A German economist has pointed out that the psychological effect of what is happening in Cyprus may be serious.
"This is not a positive development. It is minor because the size of the economy in Cyprus is relatively small, but the psychological effect of the so-called contagion effects, may be very serious," Udo Steffens, a professor and also President and Chief Executive Officer of Frankfurt School of Finance and Management told Xinhua in a recent interview.
People may assume that their assets are covered by deposit insurances, but this is not the responsibility of the insurances, it's a tax. "If the government puts a tax on your real estate, on whatever income you have, what can you do? You can do nothing," Steffens elaborated and added that the levy would hurt people's trust in the government.
The levy was decided at the end of last week at a Eurogroup finance ministers meeting in Brussels.
According to an initial proposal, bank accounts with deposits less than 100,000 euros (129,000 U.S. dollars) will be levied by a 6.75 percent tax and holders of bank deposits over 100,000 euros will have to pay 9.9 percent in tax.
Although the government of Cyprus revised the proposal and lifted the threshold of levy to the savers with up to 20,000 euros, the parliament still said no to the proposal.
Since the parliament vetoed the levy, negotiations will have to be restarted in order to prevent a default.
"There may be a compromise and minor changes," Steffens said, adding the amount of money to be raised does not carry great significance, but the levy has a psychological effect.
According to Steffens, the immediate and direct participation of depositors has brought a new dimension to the crisis. He warned of the possibility of contagion risks of the levy in Cyprus. People in other countries will now ask themselves the question, "Can this happen to me?" Steffens argued.
He went on to explain that the levy is not a question of the deposit insurance system. As long as the banks are not bankrupt, the levy is legal and can be applied because the government is trying to introduce a new tax, according to Steffens.
Though the proposed levy in Cyprus is "not enhancing the confidence in the European banking system," Steffens considers it as "understandable" from an outsider's perspective.
The deposits in Cyprus' banks, which are estimated to be around four times the size of the country's gross domestic product (GDP), bring questions.
"Why do people put so much money in such a small country?" asked Steffens.
According to Steffens, the proposed levy is tough to small savers but acceptable to bigger depositors especially those from other countries.
The international depositors obviously put their money at risk and now they are paying around 10 percent, "so I think it's well off because the alternative is that they get nothing," he said, calling the levy "a kind of burden sharing."
Steffens views the proposed one-off levy as "easy" and "clean" if "it is within the legal framework" compared with other choices like equity swap. It's more complicated and technically more sophisticated, he said.
Safeguarding Cyprus is consistent with the policy the EU and European monetary union have followed so far, Steffens said, " So no country is falling apart. The euro is defended at any price."
With regard to the turbulence on financial markets in response to the Cyprus bailout, Steffens saw it as a reminder that the crisis is not over.
He maintained that the fiscal union follow the monetary union. "If decisions are not made in that direction, then the future of the euro is not safeguarded. So we need a kind of fiscal harmonization, which means coordinated budget policies, competition policies," said Steffens.
[Source: By Xinhua writer Rao Bo, Frankfurt, 20Mar13]
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