If they are right, Bernanke will go down in history, along with Paul Volker, as the two greatest fed chairmen of all time. But yesterday's bank runs in Cyprus tell us that the best laid plans of mice and men often go astray. Here the politics seem to be leading them astray:
The depositor haircuts seem to have been necessary to get political support for the deal in the EU--and political support in the EU was necessary because Cypriot banks had assets somewhere in the neighborhood of 8 times the Gross Domestic Product of Cyprus. ... And because Cypriot bank accounts seem to be a favorite of tax-dodging Russian oligarchs . . .
From a technical, economic, perspective, however, this looks to be disastrous. If we are not yet having full-scale runs on Cypriot banks, we've at least worked up to a pretty brisk jog. No banking system can survive a bank run; if everyone tries to get their money out at once, even the soundest, most prudently managed bank in the world will fail, because they can't liquidate their loan assets fast enough to keep the cash moving out the door.
And if depositors in other troubled EU countries are paying attention, then we may see bank runs spread.
UPDATE: Economist has a nice article on the perversity of letting the banks shareholders and bondholders walk away while making insured depositors pay for the bailout:
...there is no moral imperative for whacking Cypriot widows and leaving senior bank bondholders untouched, as appears to be the case here; or not imposing any losses on sovereign-debt investors in Cyprus; or protecting depositors in the Greek operations of Cypriot banks, as has also happened.