Bailout Grows Riskier as Cypriot Economy Stumbles

With time running out until Cyprus’s devastated banks must reopen their doors to the public, Cypriot and European officials are scrambling to put in place a set of measures that would allow jittery depositors access to their savings while preventing many billions of euros from fleeing the country.

But as officials grind yet again through their economic models, they are confronting a disturbing prospect: Estimates that the Cypriot economy would shrink about 3 percent this year, a forecast that underpins the country’s controversial international bailout package, will need to be revised drastically given the shock that the island’s small economy has endured from the extended closure of its banks.

The bailout package being put together by the troika of international lenders — the International Monetary Fund, the European Central Bank and the European Commission — will consist of about €10 billion, or $13 billion, in loans for Cyprus itself. But the cost of bailing out the island’s two largest banks, Bank of Cyprus and Laiki Bank, is to be borne by the banks’ large, uninsured depositors.

At a news conference on Tuesday, the governor of Cyprus’s central bank, Panicos O. Demetriades, said that he expected big depositors at the Bank of Cyprus to get a “haircut,” or loss, of about 40 percent on their €14 billion in long-term deposits. In exchange, depositors will receive shares in a recapitalized bank.

But with many economists now estimating that the Cypriot economy will contract 5 percent to 10 percent this year, it could well be that the depositors will have to take an even bigger haircut so that the bank can free up cash to protect its rapidly deteriorating loan book.

At Laiki Bank, which is even worse off, about €4 billion of deposits will be put in a bad bank and are most likely to be wiped out as the bank is wound down.

Debt experts say that as painful as such a trimming might be, it may not be enough to guarantee the viability of the Bank of Cyprus, given the state of the economy.

“If you are not hugely conservative with regard to valuing Bank of Cyprus’s loans, the bank will be bankrupt in 12 months,” said Adam Lerrick, a sovereign debt specialist at the American Enterprise Institute.

Indeed, as of the third quarter of 2012, problem loans for the bank were 22 percent of the total, one of the highest ratios in the euro zone. That figure will have grown significantly over the past several months, economists here say.

Adding to the sense of confusion enfolding the country’s financial sector, the chairman of the Bank of Cyprus resigned abruptly Tuesday following a showdown with Mr. Demetriades, the head of the central bank, and the Finance Ministry.

The bank chairman, Antreas Artemis, complained that the authorities rode roughshod over him and his board of directors by moving unilaterally to sell off units of the bank in Greece and for planning to impose a devastating haircut on big depositors.

In a statement later in the day, the bank said Mr. Artemis’s resignation had not been accepted and “will only apply if not withdrawn within one week,” Reuters reported.

On Tuesday, the Cypriot central bank said it had appointed Dinos Christofides, a well-known local businessman, to act as special administrator for Bank of Cyprus. Mr. Christofides has long experience in auditing and advising major local and international companies.

Also Tuesday, Fitch Ratings said it was cutting its credit grades on Cypriot banks because of the losses imposed by the bailout deal on senior creditors. Fitch said it was cutting its rating on Laiki to “default” and its rating on Bank of Cyprus to “restricted default,” a grade Fitch said means the bank has experienced a payment default on a bond, loan or other material obligation but has “not entered into liquidation or ceased operating.”

Article source: http://www.nytimes.com/2013/03/27/business/global/bailout-grows-riskier-as-cypriot-economy-stumbles.html?partner=rss&emc=rss