Notes From Underground: #Irony … Carmen Reinhart Says “Do Not Take Size As An Indicator of Importance”; Harry Rheems Dies

Okay, you must have some fun amongst the idiocy of the Eurocrats. It seems that the best intentions of last Friday night’s decision to sacrifice the pawns in the game have done exactly what I thought the ill-conceived plans would accomplish. For 10 billion euros of bailout capital the fallout has been large drops in equity values. The capital losses are small compared to embarrassment facing the European policy makers. In a Bloomberg article by James Neuger, “Europe Plays I-Didn’t-Do-It Blame Game on Cypriot Deposit Levy,” it seems that German FM Schaeuble, France’s FM Moscovici, Spain’s FM Guidnos and even Finland’s FM Urpilainen all claim that they were opposed to taxing the guaranteed deposits of under a 100,000 euros. They all seem to point to the ECB and IMF as wanting the “bail-in.” This is a classic example of what my friend Andy Schreiber used to say: “Success Has Many Fathers, Failure Is But An Orphan.” The Cypriot situation is a situation that punches way above its weight. Carmen Reinhart, an economist I cite regularly on financial repression, silenced the talking heads on CNBC  when she claimed that, “Do not take size as an indicator of importance.”

Professor Reinhart’s work with Kenneth Rogoff on the levels of sovereign debt and their impact on growth potential  is so widely respected that her voice is given great respect. The importance of Cyprus will be the fallout on the periphery of Europe and can result in an outbreak of European contagion. When the Cypriot banks default two possibilities take place: 1. A restructuring; or 2. A massive expropriation of external deposits. Now the deposits don’t actually have to be seized but what can happen is that your 90-day CD can be extended to a 10-YEAR deposit. Then the extended deposits can be resold to other investors looking to try to acquire questionable assets on the very cheap. Where I disagree with professor Reinhart is on the issue of Russia for she doesn’t think the Russians will be there to bail out the Cypriot financial system.

Many other commentators forwarded the same idea. My take on it is that the Russians will push the negotiations to the latest hour to exact the greatest deal for themselves. Remember that this bailout is less than the “buyout” of Heinz where a 9% preferred was the offer. I believe the Russians are posturing to see if the TROIKA blinks under international pressure and the IMF/ECB find the will to raise the needed capital. The Russians should tell Madame Lagarde that they would be willing to take some IMF GOLD as collateral for shoveling the money to Cyprus. Chancellor Merkel’s effort at seeking to punish the Russian kleptocracy has unleashed a firestorm (Chicago Cub Fans will refer to this as another Merkle’s Boner) … another irony in tribute to Mr. Rheems.

***Again, if there is trouble in the European banking system it should be reflected in the Euribor market and we should also see pressure build to start FLATTENING THE YIELD CURVES IN THE PERIPHERAL STATES. At this time, the curves are not sending any signals but be attentive to all of the market’s barometers. The Spanish, Italian, Portuguese and Irish curves all remained well anchored to their levels of the last seven months. In Chairman Bernanke’s press conference yesterday, the Fed chairman noted he was concerned about Cyprus and hopes that the Europeans can come up with an “efficient and equitable solution.” The markets are of a like mind.

***The FOMC statement and Chairman Bernanke’s Q&A offered up no great surprises and the market’s reaction was the calmest in a very long time. There were a few things that I found of interest:

  1. The FOMC vote was 11-1 with Esther George of the K.C. Fed the lone dissenter. Governor Jeremy Stein voted with the majority but it seems that his worry about QE‘s impact on financial stability and the mispricing of risk is still getting some traction. If only Stein would vote the way he presents;
  2. The chairman reiterated that the QE and other Large Scale Asset programs (LSAP) have been a success in terms of the dual mandate and should not be measured in asset prices. What about the PORTFOLIO BALANCE CHANNEL and its cousin the wealth effect? The chairman also pointed to the program’s success in stabilizing or raising home prices and the positive effect on consumer demand from increased equity. This is the Greenspan formula and turns all asset classes into a vehicle of pro-cyclicality. I am in favor of the monetary authorities leaning against the wind. More bothersome was the chairman’s response the question about a possible equity bubble. Bernanke said he wasn’t concerned about the record high in the DOW because that was in NOMINAL TERMS NOT REAL TERMS TAKING PRICE INFLATION INTO CONSIDERATION. Chairman Bernanke talking about asset prices in such terms is??????
  3. When Chairman Bernanke was asked about too big to fail banks said that some type of surcharge may be leveled on the capital of the largest banks. Wouldn’t it be better if the too big to fail with a high-risk profile paid a higher level of FDIC insurance premium based on  their trading and investment profile? Coupled with this would be a weekly disclosure of their risk profile … as close to real-time as possible. Let the market act to exact a real price for bank risk. What a concept–markets settling risk premia in a capitalist system.


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11 Responses to “Notes From Underground: #Irony … Carmen Reinhart Says “Do Not Take Size As An Indicator of Importance”; Harry Rheems Dies”

  1. GreenAB Says:


    as far as the 100k goes – it was completely up to the Cypriots. They had to come up with the 5b number. Clearly they wanted to protect their (broken) business model and didn´t want to go too far with the big customers. So they had to take it from the little guy. It was a clever move to direct the rage of the people to Merkel & co. while it was their own government that made the deicision.

    What i am missing in the whole discussion: guess how much you would have earned recently on a 2y CD in a Cyprish bank? 4.5%! In Germany it would have been 1.5%
    So even a 9% tax would just compensate for 3 years of above average interest rates customers could otherwise only have earned in RISKY assets. sounds not like a deal from hell to me…

    if there is any chance that the turned over principles of capitalism can prevail, then it has to be Cyprus.

    still, there´s not much hope that the taxpayer will not be on the hook for every major future bailout…

  2. yra harris Says:

    Green AB–yes but once I have made the money,the net may be the same ,but it is still a tax /and or expropriation—and why not wipe out the bondholders first and other creditors–the net after the taking is not my concern for it was and is mine–yes I know about risk but why didn’t the bondholders and others absorb the risk that they knowingly took

    • GreenAB Says:

      bonds make only a tiny part (2b or so, not sure how much of that was secured and who those creditors are). so it wouldn´t be enough. stockholders and unsecured bondholders are being wiped out.
      if you default on the secured creditors you would have to turn the bank over to them and a nasty process would set in.
      the tax was designed to keep the banks intact. and since the amount was just to large they had to include depositors anyway.

      btw: Iceland was in a similar situation and managed to turn around

      i wouldn´t be surprised to see Cyprus exit the

      euro after all.

  3. yra harris Says:

    Green AB—all good points but the Cyprus exit sets a whole different outcome in motion as the pain of austerity continues to bite.But again,the timing of Periphery stress will play large in the German election

    • GreenAB Says:

      you might have guessed from my email adress – i actually am from Germany.

      as far as the election goes – the euro crisis is no big deal. really.
      all major partys are on the same pro euro path.
      the the left leaning opposition is even more in favor of “solidarity” = bailouts and if they take over i´m sure we´ll see eurobonds within two years.

      the only difference is that the opposition leaders are more open when it comes to telling the german people that the rescue of the euro comes with a price.

      so Merkel can do pretty much what she wants.
      there is no meaningful anti austerity/anti bailout alternative party on the scene.

      all she has to worry about is the german economy and if it goes into recession.

  4. Ronald Ferrill Says:

    My take is simpler. The Russians, and especially if Mr. Putin is involved, are playing their hand extremely well. Think poker.
    He can basically wait for all the others to place their bets (euro denominated) and show their hands (how they will provide the euros, or expropriate them) and then the Bear can come in and say, “I’ll raise the bet, you don’t have anymore chips, so I win without showing my hand”, which will be some sort of ownership of petro-rights or something that will multiply their current supposed investment.
    They are in an excellent position to not have to play by the same rules as the Euro-clan. Heck, China could make something out of this deal, if they decided to hop in.

  5. yra harris Says:

    Ronald–I agree .When making a deal you push time to its point of pain for the weakest hand

  6. yra Says:

    Green–I didn’t know you were German and thus your input is greatly appreciated.While there is not a vibrant opposition as of yet to Merkel,the voices of Otmar Issing ,and Jens Weidmann carry much weight as does the new group of lawyers and economists opposed to the current actions of the ECB and the European Commission and their seeming desire to turn Germany into the paymaster and transfer agent for all of Europe

  7. Norman Herbert Says:

    I cannot figure out from the blog how to buy The Rotten Heart of Europe if copies are still available.

  8. Eric Harbor Says:

    Is anyone missing something? Who puts 20 billion dollars in an island that has two masters: Turkey and Greece. If the Euro is going to break apart over this, well, this will be one of the first instances the obvious actually occurs. And how do you deposit more than the GDP of a country. Doesn’t add up. Dell Computers is going for the same price so why not a private equity buyout? Why doesn’t Qatar or Saudia Arabia buy the country and lock in additional energy reserves? Or China? Or Japan (they are printing a lot of Yen lately)? Or why doesn’t Israel and Cyprus make a cross border merger. Anyways…Thanks for your insight and hints on some amazing trades recently

  9. yra Says:

    Eric–so much to think about but will keep pushing at the themes and see what we can come up with

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