The Cyprus Experiment


As seen in Pegasus Pages (June 2013).

By Marija Michalczyk

The €10 billion bailout from the European Union and the IMF came at a heavy price; the restructuring of the nation’s largest bank, The Bank of Cyprus and the liquidation of the second biggest, Laiki Bank, is only the peak of the iceberg.

The small Mediterranean island of Cyprus has faced much civil unrest as a result of friction between Turkish and Greek Cypriots which resulted in the partition of the island into a Greek and Northern Turkish side in 1974. Politically, the northern part of the island is considered Turkish occupied territory of the Republic of Cyprus, run by the Greek government. The Republic of Cyprus joined the European Union in 2004 and the Eurozone in 2008 to further secure its position with the help of European allies.

The Republic bloomed into a prosperous, high-income economy with a high Human Development Index due to tourism, financial services, and shipping. With low taxes, the island became a tax haven for many Russian and other international companies.

When Greece fell victim to the economic crisis, Cyprus was strongly encouraged by the Eurozone, especially Germany, to help out its sister nation. Given that the budget deficit was small and the economy was expanding, Cyprus chipped in €4 billion (an average of €4500 per citizen).

When the Eurozone epidemic reached the island itself, the Eurogroup put forward a scheme of taxing all bank deposits. Despite the firm’s rejection of it on 19th March, the Cypriot government realised that it was left with little choice under the circumstances as the 25th March’s ultimatum was put forward.

Under the negotiated terms, Laiki Bank was to be liquidated and all insured deposits moved to the restructured Bank of Cyprus. All deposits over €100,000 would be given a “haircut” of up to 60%. As Germany’s representative put it, it is tired of having its taxpayers having to pay for the mistakes made by other countries. The consequences, both short-term and long-term, can hardly be overstated.

Over the following days, the banks were closed and all bank accounts were frozen. Only as little as €300 could be withdrawn per day. Given that Cypriot families are traditionally large, it was not surprising that many were left with not even enough money to buy groceries. By the next day, the last ATM machine ran out of money. Debit card limits were then set at €5,000-€10,000 per week which, to a travelling businessman, is hardly enough to pay for a plane ticket, hotel, and restaurant. On top of that, businesses, both nationally and internationally, stopped accepting Cyprus banks’ cards.

Individuals with loans from the bank have been asked to pay back half the borrowed sum or be stripped of their property. As a woman explains, “I have been working and paying off my debt every month for the past eight years, and for what? If I do not pay, they will take my house, but no one has the money to pay, and those who did already had it taken away.”

Businesses were hit the hardest. Since a large part of the money deposited is “working money”, the operations came to a halt. A few days later, transactions across the island for up to €50,000 were permitted, given that documents of proof were presented. International Transactions were limited to €10,000, as well as the amount one was able to take out of the country at the border, which could not exceed €1,000 unless declared upon entry. The wife of the wealthy businessman, the owner of the supermarket Orphanides, who was caught trying to smuggle out €4 million worth of cash, was sent to prison. Already, several fraud schemes have been reported. Individuals are allegedly offering to get the money out of the country for a percentage of the total sum.The local and international limit for business transfers has risen to €300,000, but, once again, justifying documents were required.

In light of these developments, the Cypriot Finance Minister, previously on the board of directors of Laiki Bank, resigned. His negotiations with Russia have failed and the bailout scheme he has accepted is more than unpopular. He is not the only one; three members of the board of directors of the Bank of Cyprus have likewise submitted their resignations.

The long term effects of the policies are only beginning to be felt. The Russian €24 billion and other international deposits are flowing of the country to new locations, especially Singapore and Dubai who already offer special schemes for European depositors. Unemployment is already at around 15%, with estimates as high as 25% for 2014. GDP is predicted to fall by a minimum of 15%, a rather optimistic forecast considering that transactions make up 12% of all exports and tourism (bound to fall after the loss of trust) contributes 80% to the GDP and employs 70% of the labour force.

It is also worthwhile to note that Cyprus has been receiving increasing investment flows from Asia, especially China and India, South America and Middle East, who often used Cyprus as the entry-point into the European market. The situation is likely to damage the non-EU investors’ trust not only in Cyprus, but the European Union in general.

All the while, Cypriots cannot stop asking is whether there was really no other way out. Russia has already lent Cyprus €2.5 billion in 2011, and negotiations for another €5 billion were in progress. Now that “the Eurogroup took this action without consulting Russia”, as Russia’s Finance Minister explains, “we are going to take a second look at whether to take part in a deal to restructure our earlier credit.”

A common point of view among international businessmen is connected to the recent discovery of offshore gas deposits in Cyprus’ water territories. It hardly seems fair that the country takes international money that it has frankly very little to do with, yet does not sell its assets first, they say. Russia’s energy company Gazprom has already offered Cyprus a bailout in exchange for selling exploration rights. Instead, Cyprus decided to work with the US and Israel in managing their new resource and pay off their debt to the EU.

Cypriots believe that the government has, in many ways, been “bullied” into accepting the terms by the European Union. Some go as far as to suggest that the President’s personal right-wing views make him prefer German leadership. In their eyes, the small nation has been an economic experiment, which could be managed due to the population’s small size and tranquil nature.

The tragedy of Cyprus would not, perhaps, attract an audience it has if it was not for Eurogroup’s announcement on 25th March that Cyprus was not a “crackdown” as it has been seen before, but a template for future economic policies. With the Eurozone epidemic still spreading, the question now is “Who will be next?”

Image: Images_of_Money on Flickr (CC BY 2.0).

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