What a Collapsed Banking System Looks Like

bank runIn the 1930’s the collapse of the banking system propelled the world into an economic collapse.  Depositors lost their savings, confidence was shattered, companies starved for capital went out of business overnight, borrowers defaulted en masse and unemployment soared.  A collapsed banking system guarantees an instant economic depression.

A mere generation later, the world is witnessing an unthinkable repeat of the 30’s as the insolvent banking system in Cyprus spirals into the abyss.  The government of Cyprus, already hopelessly indebted, has turned for aid to the troika of the European Central Bank, the European Commission and the International Monetary Fund.

An initial bailout agreement between Cyprus and the troika involved taxing (confiscating) a portion of assets held by depositors in Cyprus banks.  After a public outcry, the government of Cyprus refused to go along with the initial plan and the ultimate outcome remains uncertain.  While the politicians and bankers argue with each other, the Cyprus banking system has totally collapsed and banks remain closed until further notice.

This is what a collapsed banking system looks like:

  • Savings that depositors thought were safe and “guaranteed” by the state simply vanish.  The money is gone, replaced with worthless IOU’s from defaulted creditors that the bank lent money to.
  • Depositors learn that the deposit insurance system is worthless if the government issuing such guarantees is itself bankrupt.
  • With banks collapsed, the entire concept of credit disappears. Purchasing power disappears as debit and credit cards and checks become useless.
  • ATMs, if they are still operating will quickly be drained of cash by panicked customers.
  • The economic system reverts to a primitive “cash only” or barter system.
  • The collapse of confidence results in capital controls being imposed after the banking system reopens to prevent a run on the bank.  Depositors may be limited to making only small withdrawals over a period of years.
  • Savings deposits may be converted into long term liabilities of the bank, payable only if and when the bank has the financial ability to honor withdrawal requests.
  • Depositors may be coerced into converting their savings into an equity position in the bank which has minimal value.
  • The massive destruction of wealth resulting from the loss of savings destroys future purchasing power and perpetuates the ongoing depression.
  • Retirees who depended on savings and are too old to work any longer are condemned to a life of poverty.
  • New currency may be issued and the value of existing “old currency” declared to be unlawful money and null and void.
  • Precious metals such as gold and silver will hold their value as they have for thousands of years.
  • The history of the 1930’s repeats itself as economic recovery is measured not in years but decades.

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