It’s Easter weekend here in Germany and I caught this interview with Willem Buiter from the Financiëele Dagblad that I get by e-mail each morning. I thought it was significant enough that I would translate it. Buiter has been fairly pessimistic about the future integrity of the euro zone and thinks that some of the euro members are destined to leave the euro area.
In this interview, Buiter talks about Cyprus and European banking and he praises the intervention from Eurogroup head Jeroen Dijsselbloem. The most important takeaway is that he believes that the capital controls in Cyprus can last a few months at most; otherwise Cyprus will certainly exit the euro area. See Jon Danielsson’s take on that from yesterday. The second big takeaway comes from the article’s title. Buiter thinks most European banks are zombies that need to be recapitalized or resolved. In most cases this can be done by haircutting senior and subordinated bondholders only. Depositors would be spared. Cyprus is the exception because of the capital structure of the banks. The price tag will be between 1 and 3 trillion euros.
Buiter believes the second Cyprus deal was much better than the first. As I wrote in the New York Times after the first deal, bail-ins should be restricted to just the insolvent banks and after wiping out shareholders, should include all classes of creditors including senior bondholders. That’s what we got in the second Cyprus deal. Buiter says this is the way forward. He also agrees with what I have been saying, that Europe needs to act comprehensively rather than on an ad-hoc basis as and when crisis occurs.
I should note, however, that the way Laiki’s deposits were shifted to Bank of Cyprus with the existing ELA obligations was wrong. Each of these banks needed to be recapped and resolved separately if the deal was to be fair. Laiki’s non-guaranteed depositors should feel hard done by since all of the good assets have been stripped from the bank and they are left with dud assets against which only they must take losses. How this is legal, I don’t know.
The zombie bank problem was indeed the same problem in Japan – and we know that this led to poor credit growth and eventually led to more bank failures down the line. The next US downturn could reveal the same, as I have been predicting.
Note that the problem here is private debt that resulted from excess credit growth and resulted in significant malinvestment. The public debt distress is only an outgrowth of the attempt by households to deleverage, by government to socialise losses and the euro area government’s lack of fiscal space as currency users. The banks are front and centre in this private debt problem as Buiter rightly clarifies.
The first half of the translation comes after the jump for Credit Writedowns Pro subscribers. I will do the second half when I have time later today.
“Most of the banks are zombies’
Eurogroup Chairman Jeroen Dijsselbloem has done “the world a favour,” says Willem Buiter, chief economist at Citigroup.
He finally made clear how the euro area banking sector will be cleaned up. But then the politicians need to start straight away. Shareholders, bondholders and perhaps large depositors will have to feel the pain. Price Tag? Between €1 and 3 trillion euros.
What do you think of the final agreement on Cyprus?
“The agreement is exactly as it should be, with three improvements over the agreement two weeks ago. It is beyond me why the Eurogroup and the International Monetary Fund as well as the European Central Bank could live with a contribution by small savers.
That was unnecessary error. It is also better now that all the creditors, the subordinated and the senior, have been included in the bail-in. The senior bondholders escaped in the first agreement. There weren’t so many in Cyprus, but in other countries it will probably be possible to keep all deposits out of the firing line if all bondholders are included.
That opportunity was also missed with the rescue of SNS in the Netherlands. There, only the subordinated bondholders were included and the State had to commit € 3.7 billion to the rescue.”
Minister Dijsselbloem dared not force the senior bondholders to pay.
“That was wrong. In the future, it would be wise to change this when yet another bank falls into the abyss. “
Back to Cyprus. What is the third improvement?
“It’s a real bail-in of bank creditors and no wealth tax. That’s a big difference. You put on a wealth tax when the State is bankrupt. Then you can tap all wealth. If a bank fails, you catch the bank creditors. After all, they have made the commitment. And that is morally correct and efficient for the future.
Then you know that the banks are getting no financial support from the government, apart from the insured deposits under €100,000. The small deposits are also safe only if a solvent government stands behind the guarantee. Until we in the eurozone have a common deposit guarantee, small savers are not safe in all countries with both financially weak banks and governments.”
Is this the model for bank rescues?
“Yes, this is clearly the correct model. That does not mean that the list of creditors that are called upon will be the same in every bank rescue. I expect that there are few countries where depositors of banks are at serious risk, at least if one is willing to make all other unsecured creditors pay. “
What do you think of the crisis in the eurozone?
“That’s still a mess. One learns very slowly and is not ready to take action fast enough. If there are still weak, shaky or zombie banks elsewhere, they will run straight away into financing problems. Now that there is a bail-in model, there must be rapid and coordinated action.”
The rest of the translation is coming in a second part.