December 7, 2024

In Cyprus, Big Losses Expected on Deposits

But the situation is now looking even worse than anticipated. Instead of the relatively modest decline of 3 percent that is built into the forecast that underpins the country’s international bailout package, many economists say that estimate will need to be revised sharply downward 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 euros ($12.9 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 euros 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 a bigger loss 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 euros 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 may be, it still 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 in Washington.

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 last 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 after a showdown with Mr. Demetriades, the head of the central bank, and the finance ministry.

The bank chairman, Andreas Artemis, complained that the authorities rode roughshod over him and his board by moving unilaterally to sell off units of the bank in Greece and for planning to impose the 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.”

The government is also struggling to come up with some form of capital controls in a bid to prevent too much money from draining from the banks and leaving the country. Given that more than 30 percent of the Bank of Cyprus’s 14 billion euros in long-term deposits belongs to foreigners — mostly Russians and Greeks — who would not hesitate to take their money out of the country, the restrictions on those funds are likely to be onerous, bankers say.

“That money is going to stay there for a very long time,” said one person who has been involved in the discussions, but who requested anonymity because he was not authorized to speak publicly.

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

Landon Thomas Jr. reported from Nicosia; Stephen Castle contributed reporting from London, Liz Alderman from Nicosia and David Jolly from Paris.

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

Political Economy: Cyprus Refuses to Learn From Its Mistakes

Cyprus will pay dearly for its sins. The Mediterranean island has committed many follies over the years — and is still making mistakes.

The Cypriots always seem to overestimate their negotiating position. In recent years, their first big mistake was to reject in 2004 the U.N. plan for uniting their island. That irritated their E.U. partners, put Cyprus in a weak strategic position vis-à-vis Turkey and left a jagged scar across the island.

The last Communist government was also virtually criminal in its failure to act as the crisis in Greece threatened to swamp Cyprus. If it had been willing to restructure the banks, the Cypriot economy would now be a lot healthier. It also would have been easier to make a deal with Germany then than now, when Angela Merkel is only months away from an election.

The new center-right president, Nicos Anastasiades, has been in office for a month. But he has managed to turn a crisis into a disaster by initially backing a plan to impose a 6.75 percent tax on insured depositors.

Of course, the other euro zone governments, the European Central Bank and the International Monetary Fund should not have approved this terrible idea either. And Mr. Anastasiades certainly had a gun to his head: He had to rustle up money somehow, as the euro zone was rightly unwilling to lend Cyprus more than €10 billion, or about $13 billion, leaving the country with a €5.8 billion funding gap.

But the Cypriot president is ultimately responsible for his actions. There was an acceptable alternative: Tax the uninsured depositors at 15.5 percent and leave the insured ones untouched.

Mr. Anastasiades did not want to do this, as it would have angered Russia and undermined Cyprus as an offshore financial center. But both of these have happened anyway.

When Mr. Anastasiades found he could not sell the deposit grab to his people, he backtracked. There was jubilation in the streets.

The Cypriot government then asked Russia for help. But again Nicosia overestimated its negotiating position. Moscow was not interested in buying bankrupt banks or lending more money. Michael Sarris, Cyprus’s finance minister, was sent home empty-handed.

Meanwhile, the E.C.B. has threatened to pull the plug on insolvent Cypriot banks unless there is a deal with the euro zone by Monday night. As of Sunday morning, the government was frantically trying to put together a deal focused on restructuring its banking system and imposing capital controls.

The banking system certainly needs a severe revamp. The second-largest lender, Laiki Bank, is essentially bust. The largest one, Bank of Cyprus, is not in much better shape. Controlled bankruptcy of one or both institutions would cut the amount of capital Nicosia has to pump into them while cauterizing the problem.

But imposing capital controls would be a historic mistake for Cyprus and the euro zone — even worse than the crass idea of taxing uninsured deposits. Noncash transactions would be limited, while withdrawals from cash machines would be rationed.

This would be equivalent to Argentina’s “corralito,” which lasted a year in 2001-02. If capital controls are imposed, it will be almost impossible to lift them because people will stampede for the exits once they are removed. But such heavy-handed rationing of limited cash would clobber an economy that is already heading for a slump.

It would also be a terrible precedent, probably contravening European treaties. Savers in Italy, Spain, Greece and other vulnerable euro zone countries might worry that they would be next and rush to remove cash from their banking systems. Capital controls really might spell the beginning of the end of the single currency.

Some of the technocrats trying to save Cyprus were belatedly waking up to such dangers over the weekend. But they were struggling to find a viable alternative. After all, if Cypriot banks open Tuesday morning without capital controls, there will inevitably be a run on deposits.

The least-bad solution is for the European Central Bank to offer to supply unlimited liquidity and finance a run. For it to do this within its rules, the banks must be properly recapitalized and have sufficient collateral.

The key is to separate the rotten parts of the banking system from the good ones. The uninsured depositors can then go with the bad banks and effectively be tied up until they are wound down. This will cut substantially the liquidity that needs to be provided to the system. Nicosia has effectively accepted such a solution for its second-largest bank, but was resisting doing so for the biggest one.

Provided a good bank/bad bank split can be agreed upon, the good banks will be in a healthier position to get liquidity from the E.C.B. or Cyprus’s own central bank. If they still do not have enough suitable collateral, the E.C.B. should change the rules to allow other types of assets to be accepted. If there is still a shortfall, the good banks should be allowed to manufacture collateral by issuing government-guaranteed bonds.

The Cypriot members of Parliament will not like any of this. But what is the alternative? Endless capital controls? Printing a parallel currency so people get Cypriot pounds instead of euros from the cash machines? Or quitting the euro entirely?

There are no good options. But the longer it takes for Cyprus to get real, the greater the damage.

Hugo Dixon is editor at large of Reuters News.

Article source: http://www.nytimes.com/2013/03/25/business/global/25iht-dixon25.html?partner=rss&emc=rss