India’s privy purses and the Cyprus deal
(Rajan Ghotgalkar is Managing Director of Principal Pnb Asset Management Company. The views expressed in this column are his own and do not represent those of either Principal Pnb or Reuters)
When the Indian republic took shape, the erstwhile maharajas and princes were granted privy purses. These were allowances which varied based on the size of their state and the revenue it generated.
Some 25 years down the line, when India was high on socialism, the Indira Gandhi government abolished these privy purses through a presidentâ€™s ordinance after failing to get the bill passed through parliament.
There was little sympathy for the princes considering that most hadÂ prospered on the side of the British and never struggled forÂ the conspicuously luxurious lives for which they had become infamous.
Palkhivala was also bitterly criticised for being on the side of those who never deserved those allowances in the first place. However, in the eyes of the eminent jurist, famed for his razor-sharp intellect, the issue was never about a purse or those who had been deprived of its money.
He wanted to know if there was a guarantee the government would not usurp the hard-earned savings of the middle classesÂ deposited in banks and public savings schemes.
Palkhivala was greatly concerned for the future of Indiaâ€™s ordinary citizens, a future in the hands of a government that did not honour its commitments.
When the Cyprus deal was announced, I could not help remembering Palkhivala.
Unlike Indiaâ€™s abolition of the privy purses, the Cyprus deal successfully dodged parliament on beingÂ creatively disguisedÂ as a bank restructuring.
The deal hasÂ changed for ever the way I will look at bank deposits and consideringÂ how kindlyÂ insured depositors in Cyprus were treated,Â one has toÂ take deposit insurance very seriously.
Ordinary people placedÂ their money with banks only because institutional lenders andÂ central bankers were expected to supervise the quality of the bankâ€™s lending portfolio and ensure it is adequately capitalised. However, going forward, banking can no longer remain ourÂ lazy investment option because depositors will have to look out for themselves and not take bank balance sheets for granted. Depositors have to behave like lenders.
The problems in the euro zone have not disappeared with Cyprus; they are likely to remain till the time its single currency is accompanied by a single treasury and they can print their way out of their fiscal crises like the United States.
Till that time, the rush of cash into German banks will continue, eventually resulting in banking crises in other (especially the smaller)Â countries. The Cyprus deal may possibly add speed to this flight.
Expecting Germany to carry the burden of fiscal profligacy is far-fetched and the euro zoneâ€™s fiscal worries are in no way receding, as easily seen by the recent Fitch downgrade of Italy to BBB-plus with a negative outlook. The support for austerity is not really forthcoming andÂ political uncertainty in Italy is only a sign of what can happen in worse economies such as Slovenia, Hungary, Spain and Portugal.
More significantly,Â Cypriot depositors were given a royal haircut and the country which liked to think of itself as a tax haven just had its largest industry wiped out. But Spain got off lightly. The Cyprus deal has announcedÂ that not all in the euro zone are equal and this certainly does not promote the unity necessary while negotiating forÂ a unified treasury and fiscal policy.
The Cyprus deal has greatly heightened the risk of bank runs especiallyÂ in the smaller euro zone countries where liquidity will take flight at the earliest whiff of a crisis.
As Palkhivala said, the end could never justify the means, however noble and popular they may seem.
(*Privy purses were eventually abolished in 1971)