Getting Creative in Cyprus

| Tue Mar. 19, 2013 10:24 AM EDT

The Cyprus bailout plan, which raises about €6 billion by taxing bank accounts, is having problems. Small savers don't think their bank accounts should be taxed at all, and big savers (i.e., Russian plutocrats) are unhappy too. But Felix Salmon says there's a solution. A paper by sovereign debt guru Lee Buchheit suggests that Cyprus simply convert every bank account over €100,000 into a 5-year CD. Or a 10-year CD. That's it. Problem solved.

I'll trust that Buchheit has done the math correctly, but I don't quite get the point. "To be sure," says Felix—and this is always where the rabbit goes back into the hat—"the new CDs, which would be tradable, would surely trade at less than par: there would be a present-value haircut on deposits over €100,000. But that’s going to happen anyway. And at least in this case patient depositors will have a chance of getting all their money back in full — with interest."

I don't get this. What's the difference between having your account taxed by 10% or receiving a CD that you can sell for 10% off its face value? In both cases you have 90% of what you used to have, and in both cases you can then either leave your money in Cyprus or invest it somewhere else.

Still, even if it turns out that depositors would see little difference between taxes and CDs, Buchheit suggests that the CD option would have benefits for Cyprus itself: "Terming out excess deposits will effectively lock in that funding to the banks for many years. The alternative (debiting 9.9 percent now and watching the balance of 90.1 percent get out of Dodge when the banks reopen) may easily require the bailout package to be reworked in a month’s time." True. On the other hand, a tax can be unilaterally imposed with no real legal question marks. Buchheit's plan also requires a restructuring of Cyprus's sovereign bonds, and there would be loads of legal question marks there.

In any case, it's a clever sort of solution, and all things considered, it might be better than the tax. When you strip it bare, though, it amounts to much the same thing. One way or another, no matter how much you try to paper things over, someone has to come up with a few billion euros. That's a hard rabbit to hide.

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