Yesterday's statement from the Eurogroup, in response to the financial market's negative reaction to the unprecedented imposition of a bank deposit levy, allows the Cypriot government to introduce what the statement refers to as "more progressivity". The Eurogroup statement "reaffirms the importance of fully guaranteeing deposits below EUR 100.000" but this seems contradictory when the latest reports suggest that the levy will be reframed to exempt deposits below EUR 20,000, introduce a 15% levy on deposits above EUR 500,000 and 10% on everything in between. Whatever permutations and combinations actually take place, the Eurogroup warns that total revenue raised (EUR 5.8bn) must not jeopardise the EUR 10bn 'bailout'. Cypriot banks remain closed until Thursday and the Cypriot Parliament is to vote later today on the levy, though it is unclear that there are sufficient votes in favour of the measures (though the vote might be delayed again).

The reaction in the financial markets has generally been negative and many commentators have condemned the confiscatory nature of the move. Not many people would disagree with President Putin's comment that the levy is "unfair, unprofessional and dangerous". This morning, Fitch, the credit rating agency, put Cypriot banks on negative watch. The Eurogroup's response that the levy is a one-off and unique to Cyprus has yet to convince that the measures might not be repeated elsewhere. In this regard, the risk of a bank run elsewhere in the Eurozone, especially southern Europe, remains a risk.

For sure, there has been plenty of background politics involved in the decision to impose a deposit levy, with Germany threatening to push Cyprus out of the Eurozone and warning that failing Cypriot banks would not be bailed out. German elections scheduled for September this year are making the German government wary of imposing extra burdens on the German taxpayer. So it seems that bank depositors and creditors are to take the pain. Historically, economic and financial crises (the US and Europe in the 1930s) have been triggered by bank runs and the imposition of 'bank holidays'.

While the Cypriot crisis has so far been limited to pressure on the banks, it is worth noting that Cyprus has a government bond of EUR 1.415bn maturing in June, which will worry investors about the ability of the government to fund this. However, a more general point that we have made before is that the longer term viability of monetary union ultimately requires the introduction of a banking union and then fiscal union. This requires the willingness of Germany to accept debt mutualisation and, perhaps, a willingness to monetise the debts of southern Europe. That willingness is absent at the moment, which only invites periodic and perhaps more frequent volatility in financial markets. If a bank run develops in Cyprus, investors and depositors also need to be alert to the possibility of capital controls being imposed or restrictions on access to bank accounts, as happened in Argentina in 2001 under the so-called 'corralito' culminating in Argentina's sovereign debt default.

Source: bne