Lessons of Cyprus

 
Demonstrators in Nicosia Demonstrators in Nicosia were unhappy about the plans, but should the rest of Europe be happier?

The deal hammered out for Cyprus last night isn't "fair". Angry Cypriots are right about that. In important respects, Cyprus has not received the same treatment as other bailed-out eurozone economies.

That is partly because Cyprus and its banks are an extreme case, but it is also a matter of timing. The brutal truth is that the Cypriots held out too long.

Rightly or wrongly, European officials and the IMF think markets are confident enough now to take a lesson in "creditor responsibility". If Cyprus had gone for help when investors still thought the single currency was about to explode, it would have had a stronger hand.

Robert Peston is right to point out the disastrous consequences of the bailout for the Cyprus economy. Depositors with more than 100,000 euros ($130,000; £85,000) in the bank are going to lose billions.

The fact that the exact penalty won't be known for some time, with many accounts frozen entirely while that is decided, only makes things worse. It is hard to see how anybody is going to get any credit in this country in the foreseeable future, and an economy without credit is an economy that cannot do very much at all.

As I said on the Today programme this morning, the short-term implications for the rest of eurozone are clearly much less serious. Cyprus only accounts for less than one quarter of 1% of eurozone GDP.

Some will obviously be concerned about financial contagion - the risk that depositors and investors in Italy or Spain will look at this deal and wonder if they could also lose out if their bank got into trouble.

The officials who negotiated this deal are pretty sure that the hit to depositor confidence will be less than if the Cypriot government had been able to go ahead with last week's plan and raid the accounts of even small-scale depositors. After a week of foolish wobbling, the eurozone has decided that deposits worth up to 100,000 euros are sacred after all.

However, I'm not sure we're quite back to where we were a few weeks ago. The nasty way that this crisis has been resolved - and the message that has now been sent to private creditors - may well have lasting implications, even if the agonies of the Cyprus economy do not.

To obtain help from its fellow eurozone members, a country has been forced - at financial gunpoint - to destroy the part of its economy that has accounted for most of its growth for more than a generation. It has been told that this has to happen, without even a vote in parliament.

The Irish got a taste of this when they were put under pressure in their bailout negotiations to raise their low rate of corporation tax. Dublin was able to resist. As I said at the start, Cyprus had given itself a weaker hand.

The lesson to private creditors from Germany, the IMF and others at the negotiating table last night would seem to be that things are getting back to normal, and that normality cannot just mean that stock markets and bond prices continue to go up.

We have had nearly five years when governments were nervous of suggesting that anybody could lose anything they lent to a bank, either as a depositor or an investor. For creditors and depositors with more than 100,000 euros in their account, the message is that this is no longer true.

Officials think the markets are strong enough to take this lesson in creditor responsibility. We'll find out soon enough if they're right.

UPDATE 17:10

The Dutch finance minister has now publicly confirmed what I suggested earlier, that the Eurogroup wanted to send a new, tougher signal to private investors with the terms of this deal for Cyprus. Jeroen Dijsselbloem, who is also president of the Eurogroup, has told the FT and Reuters that the Cyprus programme is a "template" for future Eurozone bailouts, and that European leaders are indeed now committed to "pushing back the risks" of those rescues on to private sector creditors.

Investors have finally taken the hint: bank shares have fallen sharply since the interview was published. Markets had previously rallied this morning, in response to the deal.

Interestingly, Mr Dijsselbloem acknowledged that there had been concerns within the Eurogroup about the potential market implications of taking a tougher line, even in today's calmer environment. That was why they were initially willing to let even small deposits bear part of the cost of the rescue plan, and not senior bondholders.

So, you could say that Cypriot politicians did the hardliners in the Eurogroup and the IMF a favour last week, when they refused to sign up to Plan A. It gave the troika the chance to do what some wanted to do at the start: to negotiate a deal which would not be a special case and would indeed set a precedent for the future, at least in its treatment of the private sector.

"Bailing in" ordinary savers is not part of any sensible template for dealing with future European banking sector problems. But bailing in senior bondholders in troubled banks was supposed to be part of that more disciplined future. And now it has actually happened, in a serious way, for the first time since 2008. On top of that, unprotected bank deposits over 100,000 euros have actually been left unprotected.

As I said earlier, we'll find out soon enough whether bank investors outside Cyprus are ready for this lesson in self-discipline. In the meantime, those domestic opponents to the first version of the bailout plan appear to have done no favours to the Cyprus economy at all.

 
Stephanie Flanders, Economics editor Article written by Stephanie Flanders Stephanie Flanders Former economics editor

So it's goodbye from me

After 11 years at the BBC, I'm leaving for a new role in the City.

Read full article

Comments

This entry is now closed for comments

Jump to comments pagination
 
  • rate this
    0

    Comment number 391.

    The original proposal from Cyprus wasn't bad. If it failed the EU-wide E100k guarantee then so be it. An 8% levy across the board would be fair, and whilst we are at it, why not go for stretch target of E10b and avoid a lost decade.

  • rate this
    0

    Comment number 390.

    Now that Cyprus has secured the troica loan necessary to save it from catastrophy it should immediately turn to the detail of how best to rise E5b from deposit holders.

    They could take 6, 7, 8 or whatever % from every account as this would be simple and fair and everyone would know exactly where they are and the banks could re-open tomorrow. They shouldn't touch business accounts.

  • rate this
    -1

    Comment number 389.

    The economic problems of Cyprus and Spain could be solved at a stroke: In millionaires region north of Calpe in Spain the rates for a 5 bedroomed villa are less than 200 euros per annum. In this region alone there must be over 1000 villas. If those rates were on a par with the UK, Spain (and Cyprus too I reckon) would be financially sound. The rich Russians and ex-pats may squeal a little!

  • rate this
    0

    Comment number 388.

    Previous post just modified by 'human moderators'.

    Reality check ;
    i. Cyprus banking system on _lockdown_ : NOT meltdown.
    ii. Weekly cash limitations now imposed : Amt not yet confirmed.
    iii. Do the sums: Normal salary minus cash limitation = who will go to work ?
    Review 'IMF: Another Step to Global Economic Facism' by Paul Watson. Think of it as certain type of camp now.

  • rate this
    -1

    Comment number 387.

    They should've just left the Euro & done like Iceland. This pathological attachment to the Euro is going to drag the whole EU down. Get out of the Euro, devalue, get competitive again & reboot your economy. Don't become indentured debt slaves to the likes of Merkel.

  • rate this
    0

    Comment number 386.

    A glance at recent adverts by Cyprus bank compared with now shows they have been living in cloud cuckoo land and have sucked vast amounts of cash. In fact their banking sector looks more like a vast Ponzi scheme. Reckoning time.

  • rate this
    0

    Comment number 385.

    Writing from Cyprus.

  • rate this
    0

    Comment number 384.

    This is only the start. Germany still wants revenge on the victors of WWII as Frau Merkel plans her pan-German Eurozone or 4th Reich. A Cyprus Regiment fought as part of the British Army. If I were the Greeks and Italians I'd be worried. The Irish & Spanish are OK as they were neutral. Vichy France collaborated, so they will be safe.The precedent has been set. Who's next? We'll stand alone again,

  • rate this
    -1

    Comment number 383.

    Life isn't fair, Stephanie. They need to get over it. But anyone who now has money in Greece, Spain, Italy, France or Portuguese banks has probably moved it and if they haven't they know they will lose some of it!

  • rate this
    0

    Comment number 382.

    People took their Government's advice and "Saved for their retirement". What use is that when you suddenly find your life's savings frozen by your bank and then taxed without any Notice whatsoever? What has happened in Cyprus is a disgrace. Surely anyone in Spain, Italy and other countries facing the same situation will withdraw ALL THEY HAVE above 100,000 Euros and hide it under their mattress!

  • rate this
    0

    Comment number 381.

    English and writing from Cyprus. Two words sum up the well-planned strategy.

    Concentration camp.

  • rate this
    0

    Comment number 380.

    If you save more money than the guaranteed deposit protection scheme, you could lose the amount saved above this limit. That always was the deal with banks, wasn't it? I realise that so far depositors have assumed that additional protection was possible, but haven't the commentators been saying for a while that Cyprus didn't have the resources to back all funds?

  • rate this
    0

    Comment number 379.

    @towcesterman #374
    "not a case of a bank going broke and uninsured funds being lost."

    Laiki? It's bonds have been junk for two years, it's capital flowing out slowly, and was kept operational for the last year by tapping the emergency liquidity fund to the tune of €9bn. It's as bust as a bank can be. It's just that the cypriots didn't want to see it that way.

  • rate this
    +1

    Comment number 378.

    So once again our wonderful leaders are telling us not to be prudent or they will will just steal our hard-earned savings if they feel like it. After 65 years I no longer have any faith or respect for governments, politicians, or bankers.

  • rate this
    0

    Comment number 377.

    Things fall apart, the centre cannot hold.
    Mere anarchy is loosed upon the world.

    Wrote Yeats a long time ago. The problem is at the centre not the periphery.

    He continues.

    The blood-dimmed tide is loosed, and everywhere
    The ceremony of innocence is drowned;
    The best lack all conviction, while the worst
    Are full of passionate intensity

    How right he was.

  • rate this
    +1

    Comment number 376.

    russia to invade germany odds?

  • rate this
    0

    Comment number 375.

    A lot has been said about Russian money on deposit in Cyprus, especially in US and German media, commonly said to belong to mafia or oligarchs. And this caused deposits in Cyprus to be far above EU norms relative to GDP. How doe this ratio compare to other small nations offering secure banking arrangements? Does it follow that Bahama's banks for example hold US mafia money?

  • rate this
    -1

    Comment number 374.

    This is a raid on private funds to avoid a national bankruptcy, not a case of a bank going broke and uninsured funds being lost. If the banks were allowed to try for their own corporate rescue then it might be different. In the seventies banks were trading insolvent for years after the South American problems. Yet no-one lost their deposits.

    It most certainly is a worrying development.

  • rate this
    0

    Comment number 373.

    So far the EU has addressed only 2 of the 4 factors that have caused this mess. The issue of government borrowing and spending via austerity and the recapitalisation of the banks. Via QE. But it has not yet addressed the issue of declining real earnings and declining govt rev as % of GDP from the corporate sector. Until it dose these problems will persist.

  • rate this
    0

    Comment number 372.

    It is interesting the EU has yet again used a solution that does not require democratic approval. An EU trait I fear. As regards the deal, I am afraid the Cypriots blinked first. They should have publicly announced they were thinking of leaving the Euro, you would have seen a very different EU reaction then as they scrambled to save their political dream.

 

Page 1 of 20

 

Features

BBC © 2014 The BBC is not responsible for the content of external sites. Read more.

This page is best viewed in an up-to-date web browser with style sheets (CSS) enabled. While you will be able to view the content of this page in your current browser, you will not be able to get the full visual experience. Please consider upgrading your browser software or enabling style sheets (CSS) if you are able to do so.