The Cyprus crisis has exposed a perception problem at the heart of modern finance. Everyone has a bank deposit and regards this as their property: a form of warehousing if you like. In reality of course – as many gold and silver owners are acutely aware of – banks operate on a fractional reserve basis, whereby your money is loaned out in order to generate interest profits for the bank (as well as you).
A bank deposit may be your asset, but it is the bank’s liability. This is in contrast to say, metal held at GoldMoney, which is no one’s financial liability. The problem is that people assume a GoldMoney-style business-customer relationship exists between banks and their customers with regards cash deposits.
It’s easy to see why people think this – given government deposit guarantees and the poor state of personal finance education in many countries. Deposit guarantees are particularly problematic, as they often cannot hope to cover losses from bad loans given the excessive leverage involved in modern banking (bank assets in Cyprus are eight-times the size of the country’s GDP). James Turk discusses this in more detail in a new King World News interview. So depositors are lulled into a false sense of security.
In truth, there is no solution to the Cyprus mess that doesn’t involve losses falling on either depositors, or northern eurozone taxpayers (notably the Germans). But given that this is an election year in Germany – and with an increasing number of Germans disillusioned with the euro and the EU – the onus is on Angela Merkel to appear as tough as possible to the likes of Cyprus, Greece and Spain. So no additional German money is on the cards.
The only other options are for the ECB to print the money or for the Russians to come to the rescue. But the ECB is loath to resort to the kinds of unlimited QE measures we’ve seen in Britain and America, while talks with the Russians have collapsed.
So it’s shaping up to be an interesting weekend. Next week could be fun as far as gold is concerned.
