CYPRUS - THE SUSPENSE BUILDS UP, SO DOES THE UNCERTAINTY
By Ruma Dubey
Cyprus is a small country and when it became a part of the Euro Zone, everyone was surprised. It has basically been a country where a lot of money comes in from Russia, huge tracts of money from the underworld. And being close to Greece, majority of the population in Cyprus is from Greece. Thus when Greece fell into trouble, it was only a matter of time before Cyprus too would get caught.
Cyprus is small but could cause big trouble for the big Euro zone. In terms of GDP, Cyprus is the euro area’s third smallest and accounts for less than 0.2% of the region’s output. Trouble in Cyprus started brewing last year itself, when Greek went belly-up. It had applied for external funding last summer and that “help” amount has now grown to Euro 17.5 billion. Greece collapsed due to excessive leverage and a dysfunctional public sector and Ireland fell due to its real estate bubble and elephantine banking system. For Cyprus it is more of a dominos effect – when Greece collapsed, demand and economy in Cyprus fell and the next thing which happened was that tax revenue dried up. Realty prices started falling and there followed a write-down on bank assets, most of them of Greek borrowers and then of Greek sovereign papers. All this led to a need for external funding and thus the current crisis.
So then why is there news of people rushing to ATMs and withdrawing cash like there is no tomorrow? People do not know what will happen when the new week dawns; there is fear that banks might shut down and their money, majority of Russians, might see their cash going off in a whiff.
Cyprus has asked for money and the ‘external lenders’, IMF and other EU countries have agreed to lend around $13 billion to Cyprus but it needs to come up with $7.5 billion on its own. And to raise this money, the broke country came with an idea of taxing bank deposits which was naturally met with huge protests.
The European Central Bank’s governing board has stated that it will give Cyprus time till Monday to raise funds and agree to terms of IMF and other European nations or else it would cut off flow of Euros to the already struggling banks of Cyprus.
So why is the ECB pushing Cyprus to the wall like this instead of bailing it out like the way it did for Greece? Is this is a case of might over the weak and small? To some extent yes but to be fair, the finances of Cyprus are in a sense of complete disarray and that immediately disqualifies it from ECB’s standard loans. On the other hand, it has already put in billions of dollars into Cyprus under ECB’s Emergency Liquidity Assistance. But now it has shut the tap as there seems to be no rescue plan in sight and there is fear that once the banks reopen (banks have been closed since 16th March and will reopen on 26th March) , there is going to be a massive deposit run and thus has put the tiny island to fend for itself. Cyprus is depending on Russian banks to rescue the country but it too has turned down any offer to help.
Cyprus has come up with a plan wherein it will give the Govt the power to restrict noncash transactions, curtail cheque encashing, put a limit on cash withdrawals and it has also put out a proposal to convert savings accounts into fixed-term deposits when the banks reopen. There are also plans to build a "solidarity fund" which will include the national assets like future gas revenues and pension funds and these will be offered as an emergency bond issue. There is also plan to restructure its banks. The Cyprus Parliament is debating over these proposals today and if these do not go through, Cyprus will have to leave the Euro zone.
The ramifications of leaving the EU for Cyprus will be huge but within the EU, it would not mean much as Cyprus is too small. But psychologically, it would be a huge negative. And maybe for others like Poland who are considering leaving the EU, this could be a “live” lesson of the effects of leaving the EU.
Yes, Cyprus will very much rule the markets when the week begins. Will this be another brinksmanship politics or are we witnessing history? The story will unfold soon and till then the suspense will be the uncertainty in the markets high.