Global economy enters uncharted waters with Cypriot bailout rejection

Earlier today, parliamentarians in the island nation of Cyprus overwhelmingly rejected a proposed law that would have imposed a levy on depositors in the country's troubled finance industry. As we reported previously on this blog, the negotiations between European officials and members of the Cypriot government were highly fluid following the announcement of the plan this past weekend. Within the past 24 hours, the proposal has shifted the burden from smaller account-holders to those with larger deposits, namely Russian billionaires who have notoriously used Cyprus's banking system to store funds. 

According to various media sources, support for the law – which would have protected deposits below 200,000 Euros and imposed a fine on those above that limit – quickly crumbled as it became clear that even the ruling conservative party would not vote unanimously. Thirty-six out of 54 ministers rejected the legislation, the final form of which called for a 30 percent tax on bank accounts held by non-Cypriot citizens.

Economists around the world are now asking the question: what happens next? Since the global financial crisis began in 2008, few taxpayer-funded bailouts have been rejected.

The most relevant example is the failure to pass the TARP program in the United States, which led to trillions of dollars in losses following one of the worst stock market days in modern history.

Other European countries have voted down bailout proposals in the past, but those initiatives were quickly changed and pushed through by legislators afterward, such as in Italy several years ago.

Yet with Cyprus, there is no clear way forward. Currently, members of the Cypriot government are reportedly working with Russian officials in a long-shot bid that would trade natural gas rights for funding, but it's unclear how effective this measure will be. 

Investors should proceed extremely carefully in the coming days, and may want to hedge their riskier assets accordingly before financial markets worldwide begin absorbing this news. If the past few days on the stock market have been any indication, it could be a bumpy ride.

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