...Some of Cyprus's banks, like many banks in Europe, are bankrupt... Cyprus went to the eurozone to get a bailout, the same way Ireland, Greece, and other European countries have.
The eurozone powers-that-be (mainly Germany) gave Cyprus a bailout and insisted that the depositors in Cyprus's banks pay part of the tab — a startling condition that has never before been imposed on any major banking system since the start of the global financial crisis in 2008.
The deal did not touch the bondholders. Why the depositors? These are folks who had their money in the banks for safe-keeping.
When Cyprus's banks reopen on Tuesday morning, every depositor will have some of his or her money seized. The current plan is that accounts under 100,000 euros will have 6.75% of the funds seized. Accounts over 100,000 euros will have 9.9% seized. And then the eurozone's emergency lending facility and the International Monetary Fund will inject 10 billion euros into the banks to allow them to keep operating.
...Not surprisingly, news that deposits in Cyprus's banks would be seized triggered an immediate run on the banks... Depositors rushed to ATMs and tried to withdraw their money before it could be seized. But the ATMs weren't working. And the government has now made it impossible to transfer money out of the country.
...ever since the Great Depression wiped out a big percentage of the world's banks, vaporizing the bank depositors' savings in the process, banking system regulators have tried to do everything they can to protect bank depositors... Because the moment depositors think that there is risk to their savings, they rush to banks to yank their money out.
That's called a run on the bank. And since no bank anywhere has enough cash on hand to pay off all its depositors at once, runs on the bank cause banks to go bust.
...now, thanks to the eurozone's bizarre decision in Cyprus, the illusion that depositors don't need to yank their money out of threatened banks because they'll be protected has been shattered... Depositors in Cyprus banks will lose some of their money. They will be furious about this. And they will, rightly, feel that it is grossly unfair — because depositors in the bailed-out banks in Ireland, Greece, etc. didn't lose their money. And they will feel like fools for not having taken their money out.
...Other depositors at weak banks all over Europe, in places like Spain, Italy, and Greece, will rightly wonder whether this is the beginning of a new era of bank bailouts, an era in which bank depositors are going lose some of their money. What do you think those other depositors in Spain, Italy, Greece, etc., are going to feel like doing when they realize that, if their banks ever need a bailout, they might have their deposits seized?
...Well, then, a good portion of Europe might suddenly experience a good old-fashioned bank run. That, to put it mildly, could be a disaster. It could bring the European financial crisis, which has lurched from one flare-up to another for most of the past five years, to a rather sudden head.
Econoblogger Karl Denninger says that Cyprus is a preview of coming attractions for those of us in the United States.
And he asserts that our Cyprus event will occur within two years. Because the laws of mathematics always trump those of politics.
Image hat tips: Zero Hedge (top) and NBC News.