G20 to institutionalize Bank Bail-Ins?

As I have been saying and predicting here, governments have been in a mission creep to institutionalize "deposit haircuts ", which eventually culminates into a Cyprus style bail-IN. This has been part of the deepening of use of financial repression.

Negative deposit rates signify a slippery slope towards wealth confiscation as I recently noted: Negative rates will serve as a precursor to the widespread adaption of deposit confiscation via haircuts or wealth taxes especially when the global crisis emerges.

Analyst Russell Napier warns (published at the Zero Hedge which he calls “the day the money dies”) that the G-20 has reached an accord for member nations to standardize Bail INs by legislating a downgrade on the treatment of bank deposits. (bold mine)

The G20 announcement in Brisbane on November 16th will formalize a "bail in" for large-scale depositors raising the spectre that their deposits are, as many were in 1932, worth less than banknotes. It will be very clear that the value of bank deposits can fall in nominal terms.

On Sunday in Brisbane the G20 will announce that bank deposits are just part of commercial banks’ capital structure, and also that they are far from the most senior portion of that structure. With deposits then subjected to a decline in nominal value following a bank failure, it is self-evident that a bank deposit is no longer money in the way a banknote is. If a banknote cannot be subjected to a decline in nominal value, we need to ask whether banknotes can act as a superior store of value than bank deposits? If that is the case, will some investors prefer banknotes to bank deposits as a form of savings? Such a change in preference is known as a "bank run." 

Each country will introduce its own legislation to effect the ‘ bail-in’ agreed by the G20 this coming weekend. The consultation document from the UK’s Treasury lists the following bank creditors who will rank ABOVE depositors in a ‘failing’ financial institution: 

-Liabilities representing protected deposits (in the UK the government guarantee protects 100% of deposits up to the value of GBP85,000) any liability, so far as it is secured

-Liabilities that the bank has by virtue of holding client assets

-Liabilities arising with an original maturity of less than 7 days owed by the banks to a credit institution or investment firm

-Liabilities arising from participation in designated settlement systems

-Liabilities owed to central counterparties recognized by the European Securities and Markets Authorities… on OTC derivatives, central counterparties and trade depositaries

-Liabilities owed to an employee or former employee in relation to salary or other remuneration, except variable remuneration

-Liabilities owed to an employee or former employee in relation to rights under a pension scheme, except rights to discretionary benefits

-Liabilities owed to creditors arising from the provision to the bank of goods or service (other than financial services) that are critical to the daily functioning of its operations

The above list makes it clear that deposits larger than GBP85,000 will rank ahead of the bond holders of banks, but they will rank above little else. Importantly, both borrowings of the banks of less than 7 days maturity from other financial institutions and sums owed by banks in their role as counterparties to OTC derivatives will rank above large deposits. 

Large deposits at banks are no longer money, as this legislation will formally push them down through the capital structure to a position of material capital risk in any "failing" institution. In our last financial crisis, deposits were de facto guaranteed by the state, but from November 16th holders of large-scale deposits will be, both de facto and de jure, just another creditor squabbling over their share of the assets of a failed bank. 

Interestingly, HM Treasury uses the word ‘failing’ rather than "failed" in its consultation document and investors could find their large deposits frozen for a prolonged period in any "failing" institution while the courts unpick the capital structure and decide exactly where any losses should fall. 

If we have another Lehman Brothers collapse, large-scale depositors could find themselves in the courts for years before final adjudication on the scale of their losses could be established. During this period would this illiquid asset, formerly called a deposit and now subject to an unknown capital loss, be considered money? Clearly it would not, as its illiquidity and likely decline in nominal value would make it unacceptable as a medium of exchange. 

From November 16th 2014 the large-scale deposit at a commercial bank is, at best, a lesser form of money, and to many it will cease to be money at all as its nominal value can fall and it could cease to be accepted as a medium of exchange.

Fortunately, the developed world’s commercial banks are flush with central bank reserves and these are instantly convertible into the banknotes which they may need to meet demand from depositors. While the huge level of reserves on the balance sheet is a buffer, the funding of fractional reserve banks is still very negatively impacted by a shift from deposits to bank notes. With deflationary forces gathering momentum, this further impediment to the extension of commercial bank credit would be another factor preventing central bank monetary largesse translating into growth and inflation.

As the world’s smartest lawyer Charlie Munger is fond of saying, "Show me the incentive and I will show you the outcome." Some simple mathematics reveals that the November 16th announcement will create a very major incentive for investors to change deposits into banknotes.

In short, the formalization of the G20 accord on the downgrade of bank deposits implies greater risks of bank runs.  Yet the institutionalization of bail INs will not likely to be limited to G20s but should spread even on Emerging-Frontier markets. 

Governments around the world have been in a state of panic. They are desperately manipulating stock markets in the hope that these may produce “wealth effect”, a miracle intended to save their skin or the  status quo (the welfare-warfare, banking system and central bank troika), as well as, camouflage current economic weakness and or kick the debt time bomb down the road.

Yet the same political institutions recognize that inflating stocks are unsustainable. So during this current low volatile tranquil phase, they have been implementing foundations for massive wealth confiscation. 

What better way to confiscate than do it directly. Yet the more the confiscations, the greater risks of runs on banks and on money.