Cyprus Makes News

3/17/2013 06:56:00 PM
For the first time since Benjamin Disraeli.

So, the econosphere has been abuz while I've been offline. Cyrprus is having serious financial troubles, like most small European economies, and Germany is sick of footing the bill--this time they are ordering Cyrpus bank depositors to pay the bills.

In exchange for a 1 billion euro bailout, Cyprus has been asked to impose a 6 billion euro tax on depositors at banks that would take 5% of deposits less than 100,000 euros, 10% of deposits less than 500,000, and 13% of deposits larger than 500,000 euros.

The circumstances here are all pretty shocking. For one thing, the eurozone has a deposit insurance system similar to the FDIC, which is supposed to guarantee deposits up to 100,000 euros. The terms of this bailout violate this arrangement, and its not clear why they are doing it. For another thing, this isn't so much a tax as a raid--a bank-holiday was announced for monday and tuesday, during which time all deposit accounts will be frozen while the government removes 5% to 13% of their contents. We just need to add George Clooney and Matt Damon in a black ski masks and this sounds like a movie plot.

I expect to see lots of legal battles over this for years to come. Cyprus follows a commonlaw system inherited from the British (the addition of Cyprus to the British empire was the signature foreign policy achievement of Disraeli's career, hence the comment at the beginning). This means Cyprus has a powerful and independent judiciary that could potentially overrule the legislature if the deposit tax is determined to be illegal. I can't speak for Cypriot laws, but I suspect the US supreme court would do exactly that.

If the same terms were applied to the US, they would probably be unconstitutional. The arbitrary forfeiture of deposits could be argued to be a "takings" and not a tax, and therefore violate the fifth amendment. It might also be a violation of Article 1 section 9, which prohibits Bills of Attainder and laws passed ex-post facto, since the tax applies to transactions (depositing of money) which were made prior to the existence of the tax. In the US when property taxes, sales taxes etc are hiked, they are always forward-looking, giving you the opportunity to sell your property or cut back on spending. The deposit tax, by contrast, will not allow depositors to withdraw their money and therefore more closely resembles, for example, a retrospective income tax hike on money people earned years ago. You might even be able to claim it violates "substantive due process" under lochner-era precedents, since while the government can tax depositors directly, or it can tax banks directly, it cannot directly dictate the terms of the contract between the depositor and the bank, which is effectively what this "deposit tax" actually does.

But, back to Cyprus. For one thing, Cyprus is a signatory on a treaty banning capital controls. Treaties outrank ordinary statute, meaning that Cyprus technically cannot prevent depositors from withdrawing funds without breaking the law. And that entitles depositors to legal restitution. So it seems to me that Germany's latest demands are likely to cause more trouble than it solves. If the seizures are found to be illegal, Cyrus could find itself facing a massive bank panic, with no ill-gotten gains to show for it.