The Slippery Slope of Deposit Confiscation: Australian Edition

In the  recent  G-20 meeting, deposit confiscation (bailIns) had been included as part of the multipartite political agenda. Yet unknown to most, this serves as handwriting to the wall for the formal banking system.

Here is what I wrote then: (bold mine)

In short, the formalization of the G20 accord on the downgrade of bank deposits implies, the 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.

Well Sovereign Man’s Simon Black identifies Australia as one of the would be pioneers to such path… (bold original, italics mine)

Several months ago, the government of Australia proposed to tax bank deposits up to $250,000 at a rate of 0.05% (5 basis points).

Their idea was for the money to be invested in a rainy day Financial Stabilization Fund to insure against in the unlikely event of a banking crisis… or all-out collapse.

And as of this morning, it looks like the levy might just pass and become law in Australia. All parties support the idea. Which means that Australia might just have a tax on bank deposits starting January 1, 2016.

To be clear, the proposal seems to plan on taxing the banks based on the amount of deposits they’re holding—but it’s pretty obvious this will be passed on to consumers in the form of lower interest rates.

Let’s look at what this means:

1. Taxes on bank deposits are generally the same as negative interest rates. Australia is a rare exception.

Interest rates on bank deposits in most developed nations are practically zero… if not already negative.

So charging a tax above and beyond this would clearly push rates (further) into negative territory.

I have, for example, a small bank account in the United States that pays me about .03% interest (three basis points). If the government imposes a tax of 5bp on interest of 3bp, I’m left with negative interest.

Australia (along with New Zealand) is a rare exception since interest rates are actually positive. You can get 2-3% on a savings account. So a 5bp tax still results in positive interest.

2. Taxes always start small… then increase over time.

Of course, the proposal on the table right now is a 5bp tax. There’s nothing that says this can’t increase to 50bp over time.

When the United States government first imposed the modern federal income tax a century ago, the top tax rate was just 7%. These days that would qualify the US as a tax haven.

Over time, tax rates rose to as high as 92%. Tax rates can (and do) rise. And once they’re passed, they’re almost never abolished.

3. Taxes are rarely used for their stated purpose

Politicians create and raise taxes all the time for special purposes. And again, over time, they are often diverted away from those purposes.

In 1936 after a devastating flood in Johnstown, Pennsylvania, the state government passed a ‘temporary’ 10% tax on all alcohol sold in the state in order to help pay for disaster relief.

Six years later the work was complete. But the tax is still on the books (now at 18%), with all the revenue going to whatever the state lawmakers want to blow it on.

FICA is another great example. Though payroll taxes in the US were initially established to fund Social Security and Medicare, the federal government steals this revenue every year to haplessly try and plug budget deficits.

So a tax to build a financial stabilization fund might sound comforting in theory… but will all the revenue actually be allocated for that purpose? Doubtful.

4. If this can happen in Australia, is anyone foolish enough to think it can’t happen in the US or Europe?

Australia has a sound and sturdy banking system.

Banks in Australia are actually, you know, solvent. Capital ratios and liquidity rates are solid. Australia’s is a well-capitalized banking system—far more than in the US and Europe.

The numbers tell a very clear story. Banking systems across Europe in particular have had to be routinely bailed out over the past few years—Slovenia, Spain, Greece, Cyprus, etc.

In the United States it is perhaps even more absurd. Based on their own numbers, US banks are highly illiquid, still gambling away customer funds in trendy investment fads that will likely suffer an epic meltdown.

Backing up this little scam is the FDIC, which itself is pitifully undercapitalized to support any significant problem in the banking system.

Backing up the FDIC is the US federal government, which is already drowning in more than $60 trillion in liabilities (based on the most recent GAO report).

And supplying crack to the crack head is the US Federal Reserve, America’s central bank.

With net capital just 1.26% of total assets, the Fed is so pitifully capitalized they make Lehman Brothers look like Berkshire Hathaway.

So if the government of Australia is concerned that their well-capitalized banking system needs a safety net and wants to tax deposits for such purpose, how in the world can we possibly expect the US and Europe, with all of their banking system risk, won’t do the same?

One thing leads to another.

When the next global crisis appears (very soon), domestic currency confiscation will likely spread to foreign currency deposits. The buck won’t stop here. As part of the manifold means to capture resources, capital controls will be imposed, trade controls, price and wage controls will most likely be  also implemented. 

Government’s use of monetary inflation or the inflation tax will intensify. 

Proof? In Ireland, Irish politicians has proposed of the nationalization of money creation. They want to bar banks of this role and shift money creation to solely the domain of the central bank

From Telegraph (bold mine)

Iceland's government is considering a revolutionary monetary proposal - removing the power of commercial banks to create money and handing it to the central bank.

The proposal, which would be a turnaround in the history of modern finance, was part of a report written by a lawmaker from the ruling centrist Progress Party, Frosti Sigurjonsson, entitled "A better monetary system for Iceland".

"The findings will be an important contribution to the upcoming discussion, here and elsewhere, on money creation and monetary policy," Prime Minister Sigmundur David Gunnlaugsson said.

The report, commissioned by the premier, is aimed at putting an end to a monetary system in place through a slew of financial crises, including the latest one in 2008.

According to a study by four central bankers, the country has had "over 20 instances of financial crises of different types" since 1875, with "six serious multiple financial crisis episodes occurring every 15 years on average".

Mr Sigurjonsson said the problem each time arose from ballooning credit during a strong economic cycle.

So instead of dealing with the incentives that whets on the appetite of the banking system to expand credit, politicians see knee jerk reactions as solutions. 

Yet by monopolizing credit allocation, this will lead to even more politicization of  distribution of credit. And because governments via central bank will pander to populist short term oriented political agenda, this heightens the risks of, or eventually paves way to, hyperinflation. 

Going back to negative rates, yet the opportunity cost of negative rates will be the cost of storage of currency/banknotes. This means that if negative rates will go deeper, at a certain point, people will look at cash/banknotes (in safety boxes? or in pillow mattresses?) as a more feasible alternative to bank deposits. 

So the likely unintended consequence will be intensified “debt deflation” as more people horde cash. And instead of global economies experiencing a renaissance, the opposite will occur, capital consumption will intensify, thus economies will falter if not collapse, thereby leading to massive debt defaults.

Stashing cash may increase security risks as robbery and theft. This will raise the cost of holding cash. So the public will be immersed in a conundrum: the devil or the deep blue sea; Submit to government confiscation or to heightened security risks of holding cash. This points at how inflationism destabilizes society

Although, some entrepreneurs may see this as commercial opportunities. They may offer large scale storage/safety box facilities with stringent security. I am hopeful that there will be private sector alternatives even if it means black market substitutes.

But governments will always attempt to employ a dragnet on the resources of her constituency by imposing controls. Example, the French government has been en route to outlaw or impose increase restrictions on cash holdings.

From Reuters: From September onwards, people who live in France will not be allowed to make payments of more than 1,000 euros ($1,060) in cash, down from 3,000 now. The cap for foreign visitors, left higher for reasons that include facilitating tourism, will be cut to 10,000 euros from 15,000.

So while stock markets have been running records, behind the scenes, perhaps in anticipation of violent adjustments from the current unsustainable arrangements, governments have been working 24/7 on the legal, political, technical platforms towards direct confiscation of people’s resources.

Cyprus: The Mouse that Roared

Unfolding events in Cyprus may or may not be a factor for the Phisix or for the region over the coming days. 

This will actually depend on how the bailout package will take shape, and importantly, if these will get accepted by the “troika” (IMF, EU and the ECB), whose initial bid to force upon a bank deposit tax indiscriminately on bank depositors had been aborted due to the widespread public opposition.

So far, the Cyprus parliament has reportedly voted on several key measures[1] as nationalization of pensions, capital controls, bad bank and good bank. Reports say that the Cyprus government has repackaged the bank deposit levy to cover accounts with over 100,000 euros with a one-time charge of 20%[2]!

The troika demands that the Cyprus government raise some € 5.8 billion to secure a € 10 billion or US $12.9 billion lifeline.

If there may be no deal reached by the deadline on Monday, then Cyprus may be forced out of the Eurozone. Then here we may see uncertainty unravel across the global financial markets as a Cyprus exit, which will likely be exacerbated by bank runs and or social turmoil, may ripple through the banking system of other nations.

However, if Cyprus gets to be rescued at the nick of time, then problems in the EU will be pushed for another day.

Nonetheless unfolding events in a 1 million populated Cyprus, but whose banking system has been eight times her economy[3] has so far had far reaching effects.

The Cyprus “bail in” has already ruffled geopolitical feathers.

Germans are said to been reluctant to provide backstop to Cyprus due to nation’s heavy exposure to the Russians, where the latter comprises about a third of deposits of the Cyprus banking system. Much of illegal money from Russia has allegedly sought safehaven in Cyprus.

The Cyprus-Russia link goes more than deposits. They are linked via cross-investments too.

Some say that the Germans had intended to “stick it to the Russians”[4].

On the other hand, Russians have felt provoked by what they perceive as discrimination.

Meanwhile events in Cyprus have also opened up fresh wounds between Greeks and the Turkish over territorial claims[5].

The other more important fresh development is of the bank deposit taxes.

Where a tax is defined[6] as “a fee levied by a government on income, a product or an activity”, deposit taxes are really not taxes, but confiscation.

Some argue that this should herald a positive development where private sector involvement takes over the taxpayers. Others say that filing for bankruptcy would also translate to the same loss of depositor’s money.

Confiscation is confiscation no matter how it is dressed. It is immoral. Private sector involvement is forced participation.

Bankruptcy proceedings will determine how losses will partitioned across secured and unsecured creditors and equity holders. Not all banks will need to undergo the same bankruptcy process. Yet confiscation will be applied unilaterally to all. For whose benefit? The banksters and the politicians.

And one reason bondholders have been eluded from such discussion has been because Cyprus banks have already been pledged them as collateral for target2 programs at the ECB[7].

The more important part is that events in Cyprus have essentially paved way for politicians of other nations, such as Spain and New Zealand[8], to consider or reckon deposits as optional funding sources for future bailouts.

With declining deposits in the Eurozone[9], the assault on savers and depositors can only exacerbate their financial conditions and incite systemic bankruns.

So confidence and security of keeping one’s money in the banking system will likely ebb once the Cyprus’ deposits grab policies will become a precedent.

This is why panic over bank deposits have led to resurgent interest on gold and strikingly even on the virtual currency the bitcoin[10]. The growing public interest in bitcoin comes despite the US treasury’s recently issued regulations in the name of money laundering[11].

Such confiscatory policies will also redefine or put to question the governments’ deposit insurance guarantees. Not that guarantees are dependable, they are not; as they tend increase the moral hazard in the banking system as even alleged by the IMF[12]. 

Deposit guarantees are merely symbolical, as they cannot guarantee all the depositors. Given the fractional reserve nature of the contemporary banking system, if the public awakens to simultaneously demand cash, there won’t be enough to handle them. And obliging them would mean hyperinflation. That’s the reason the dean of the Austrian economics, Murray Rothbard calls deposit insurance a “swindle”[13].

The banks would be instantly insolvent, since they could only muster 10 percent of the cash they owe their befuddled customers. Neither would the enormous tax increase needed to bail everyone out be at all palatable. No: the only thing the Fed could do — and this would be in their power — would be to print enough money to pay off all the bank depositors. Unfortunately, in the present state of the banking system, the result would be an immediate plunge into the horrors of hyperinflation.

So governments will not only resort to taxing people’s savings implicitly (by inflation), they seem now eager to consider a more direct route: confiscation of one’s savings or private property. Note there is a difference between the two: direct confiscation means outright loss. Inflation means you can buy less.

Finally, losses from deposit confiscation, and its sibling, capital controls will lead to deflation.

Confiscatory deflation, as defined by Austrian economist Joseph Salerno, is inflicted on the economy by the political authorities as a means of obstructing an ongoing bank credit deflation that threatens to liquidate an unsound financial system built on fractional reserve banking.  Its essence is an abrogation of bank depositors' property titles to their cash stored in immediately redeemable checking and savings deposits[14]. 

The result should be a contraction of money supply and bank credit deflation and its subsequent symptoms. This will be vented on the markets if other bigger nations deploy the same policies as Cyprus.

That’s why events in Cyprus bear watching.

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[1] See Cyprus President Warned Friends of Crisis March 23, 2013

[2] New York Times Cyprus Makes Plan to Seize Portion of High-Level Deposits, March 23, 2013

[3] Constantinos Stephanou The Banking System in Cyprus: Time to Rethink the Business Model? 2011 World Bank

[4] Investopedia.com The Cyprus Crisis 101 March 19, 2013

[5] See Will Events in Cyprus Trigger a War? March 22, 2013

[6] Investorwords.com Tax

[7] Mark J Grant Why Cyprus Matters (And The ECB Knows It) Zero Hedge March 23, 2013

[8] John Aziz Guest Post: Whose Insured Deposits Will Be Plundered Next? Zero Hedge March 21, 2013

[9] The Economist Infographics March 23, 2013

[10] See Bitcoins: Safehaven from Cyprus Debacle and Officially Recognized by the US Treasury March 21, 2013

[11] International Business Times, US Treasury Department: Virtual Currencies (Read: Bitcoins) Need Real Rules To Curb Money Laundering March 22, 2013

[12] Buttonwood What does a guarantee mean? The Economist March 19, 2013

[13] Murray N. Rothbard Taking Money Back January 14, 2008 Mises.org

[14] Joseph Salerno Confiscatory Deflation: The Case of Argentina, February 12, 2002 Mises.org

War on Savers: Cyprus’ $13 Billion Bailout to be Funded by Taxing Depositors

In Cyprus, abetted by the IMF, increasingly desperate politicians will now tax depositors in order to bailout banksters.  This is financial repression at its finest.

From Bloomberg,

Euro-area finance ministers agreed to an unprecedented tax on Cypriot bank deposits as officials unveiled a 10 billion-euro ($13 billion) rescue plan for the country, the fifth since Europe’s debt crisis broke out in 2009.

Cyprus will impose a levy of 6.75 percent on deposits of less than 100,000 euros -- the ceiling for European Union account insurance -- and 9.9 percent above that. The measures will raise 5.8 billion euros, in addition to the emergency loans, Dutch Finance Minister Jeroen Dijsselbloem, who leads the group of euro-area ministers, told reporters early today after 10 hours of talks in Brussels. The International Monetary Fund may contribute to the package and junior bondholders may also be tapped in a so-called bail-in, the ministers' statement said.

Officials have struggled to find an agreement that would rescue Cyprus, which accounts for just half of a percent of the euro region’s economy, without unsettling investors in larger countries and sparking a new round of market contagion. Finance Minister Michael Sarris said the plan was the “least onerous” of the options Cyprus faced to stay afloat.

The Cyprus government is supposed to vote on this today. However, such plan has already incited incidences of panic.

From Reuters,

The decision prompted a run on cashpoints, most of which were depleted by mid afternoon, and co-operative credit societies closed to prevent angry savers withdrawing deposits.

Almost half Cyprus's bank depositors are believed to be non-resident Russians, but most queuing on Saturday at automatic teller machines appeared to be Cypriots.

This is monumental. Governments today have become more brazen. They are not content with imposing implicit taxation channeled through inflation, but now take on the recourse of outright confiscation of private property. With inflation, lost purchasing power means lesser quantity of goods or services to acquire. With taxation, people simply lose money and the attendant services derived from it.

True, Cyprus maybe small, but this serves a trial balloon on what governments will resort to, as today’s crisis deepens or remains unresolved.

Yet politicians forget that when you tax something you get less of it. Incipient signs of consternation may translate to potential bank runs, not limited to Cyprus but to crisis stricken Euro nations. Depositors from the PIIGs could express fear of the same policies that could be implemented on them.

And since the deal was forged while the financial markets has been closed for the weekend, I expect some volatility in the marketplace at the week's opening.

Moreover, ravaging depositors will increase political risks that may escalate into social unrest. This also amplifies the sundering or progression the demise of the EU project.

Of course when people become distrustful of the institutions that are supposed to underwrite the safety of their savings, gold and precious metals will function as the main beneficiaries.