How big will the Europeans' sacrifice to save the banking system be?

The European banking authorities have initially denied the global financial crisis, thinking that the subprime exposures of the American banks will remain confined there. They were then forced to gradually admit the size of the problems, not just of those caused by the subprimes, under the vicious assault of reality.

Was it incompetence or was it lying? Regardless of the answer, the result should have been a flurry of resignations. Other than that, it was nothing but a flurry of sovereign debts, direct but also unacknowledged and not booked, due to the explicit guarantees granted for the debts owned by banks.

The European authorities are now trying to convince us that a solution has been found to stabilize the banking system. The domestic and international press has covered broadly the terms of the new institutional framework for the rescue of the banks, in which the bail-in plays the crucial part.

Gunnar Hokmark, the Swedish member of the European parliament that supervised the passing of the legislative initiative through the European Parliament, said that "we now have a powerful bail-in mechanism, that sends a clear message: the shareholders and creditors of banks will bear the losses if needed, not taxpayers".

What he conveniently forgot to say is that depositors have been included among creditors, and they are taxpayers as well.

Thus, the European citizens now have the "opportunity" to pay up twice to save distressed banks.

How likely is the use of the bail-in in Europe? Very, and there is even a very high likelihood that the amounts set so far, in other words up to the level of the guaranteed deposits, will be exceeded.

Why? Because "economic stagnation can prove to be the new normal", as Larry Summers, a professor at Harvard and former secretary of the Treasury of the US recently wrote in an editorial in Financial Times. In his opinion, "in the ten years which have preceded the crisis, the speculative bubbles and cheap credit have only determined a moderate growth". But credit has increased exponentially, and the interest and the principal can no longer be paid by a stagnating economy.

How was it possible for credit to see an accelerated increase, while the real economy was left behind? Isn't saving the source of banking deposits, which are then used for lending?

Manuals and official propaganda describe lenders as the intermediaries of the economic flows in the economy. But is that really the case?

Far from it. In a study published on the website of the IMF in August 2012 (author's note: "The Chicago Plan Revisited", authors Jaromir Benes and Michael Kumhof) it is said that the main role of banks is to "create and destroy money", because "in the current system, banks don't need to wait for the depositors' money before lending, instead they create their own funds, the deposits, through the act of lending".

Regardless of how unlikely this statement may seem, the authors back it with other documents published on the websites of the Federal Reserve and the Bank of England.

"In other words, the banks' liabilities are not the result of the aggregation on a macroeconomic level of the savings of companies", because "the savings accumulate too slowly to allow lending booms", the two authors further write. This is the reason why the so-called bail-in is unavoidable.

Unlike Europe, the authorities in the United States are far more advanced when it comes to the legislative framework for a bank bail-in. Ever since back in October 2013, the vice-governor of the Bank of England, Paul Tucker, said that "the US authorities could do that even today". Tucker cooperated with the FDIC (Federal Deposit Insurance Corporation) officials on the plan to intervene in the event of the collapse of a major financial institution that had major international operations.

A statement of the president of the FDIC, Martin Gruenberg, sounds like a warning for its partners across the Atlantic: "Almost 70% of the on-balance sheet and off-balance sheet assets of our financial institutions are owned in Great Britain".

Under these circumstances, it is clear that the authorities can't even remotely assess the chain-reaction effects of "saving" a major international bank, especially since there are no procedures for the application of the bail-in at the level of the entire global financial system.

Isn't it to be expected that the funds from the Western countries would migrate to where there is no such framework? If yes, then what should be the nature of the barriers erected to obstruct the outflows of cash?

Before getting to the part of dealing with this kind of "details", it would appear that the only certainty of the European plan is bureaucracy. Just a few days after the press release, Financial Times wrote that "there is an increasing number of concerns about how fast the collapse of an international bank could be dealt with", as "the latest proposals show that up to 126 people would be involved". And everything would need to happen over the week-end, in full secrecy, to avoid the massive withdrawals of cash in a climate of panic.

If this is the scenario of an orderly bail-in, what do the European authorities imagine a disorderly default would look like?

On the same day that the European authorities have agreed to the legislative framework for dealing with the banking problems through the bail-in, German newspaper Handelsblatt published the results of a study by Standard and Poor's, which showed that "the first 50 banks in Europe need additional capital of about 110 billion Euros, to avoid the risk of their ratings being cut", of which 50 billion account for the capital needs of the banks in Greece, Spain, Portugal and Italy.

But the outskirts aren't the only ones with problems. In Austria, the government has increased the capital of nationalized bank Hypo Alpe- Adria-Bank International by another 800 million Euros last week, with public spending on supporting Hypo reaching 3.6 billion Euros over the last 5 years. The central bank is pressing the government to allocate the necessary amounts because "there exists the risk of a disorderly default" of the nationalized bank, with extremely serious effects on the banking system, which could lead to costs of up to 26 billion Euros, according to an article in the online edition of the Profil magazine.

The bail-in framework says that guaranteed depositors (author's note: those with deposits of up to 100,000 Euros) will not be affected by the new measures. Really?

According to the annual report for 2012 from the Romanian Fund for the Guarantee of Bank Deposits (FGDB), the resources allocated for the Guarantee of Deposits in Romania were 2.9 billion lei, representing 1.9% of the total value of deposits. But something else is even more interesting: "Compared to other EU member states, this kind of level of exposure coverage places the FGDB among the deposit guarantee schemes for which that ratio is the highest".

So then, how can the European authorities guarantee that the bail-in will stop at the announced threshold? Especially since they have chosen to ignore the true cause of the current problems: the instability of the banking system comes from the existence of fractional reserve lending, amid a paper-based monetary "standard", which is "managed" by the central banks.

The limit for growth in this context has been reached through the uncontrolled boom of lending, after decades of shifting future welfare into the present. So the bail-in-is not just a matter of "if", but of "when", and the lowest costs will be those that end up on the frontpages of the newspaper.

The real costs will be those associated with the deepening distrust in the banking system, corroborated with the social and material ones, determined by the grave undermining of the capital formation process and implicitly, of new jobs.

With authorities which have escaped the control of democratic vote, Europe risks going back to the times when welfare was nothing but a dream and institutionalized theft was the order of the day.

This is the price paid for falling for the empty promises of the paper money and of the illusory stability provided by central banks.