Cyprus undoes Eurozone progress

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BoC

The Cyprus saga continues and, as I type, there is still no resolution in sight. Russia has reported there is no deal coming and talks between the Cypriot government and the IMF, which were believe to be going well as late as Saturday, appear to have stalled again. The EU seems even more resolved to do nothing more, and there are continuing rumours that the additional bailout figure required by the Cypriot government is growing hourly.

EU’s Economic Affairs Commissioner Olli Rehn said progress is being made in negotiations but at this stage there is very little to show for it.

The Cypriot government has re-introduced a banking levy for amounts over €100,000 which re-instates the protection over small depositors but very obviously pushes the burden upwards. The new levy rate is now 20% for uninsured accounts at the bank of Cyprus and 4% in all other banks operating in the country. There are reportedly €38bn in Cypriot bank accounts with account balances over €100K.

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The EU is doing its best to highlight the exceptional difference between Cyprus and the rest of the area as to why it is a unique case. I don’t totally disagree with that assessment, but its not far from what was said about Greece at the time, but this bailout has become particularly toxic with a number of sacred lambs already slaughtered.

Firstly, deposit insurance has all but been abandoned. Obviously the latest u-turn has put some of that back in place, but that is very unlikely to sway anyone with a concern about their deposits as this was not the Troika’s first choice. Cyprus has shown that when push comes to shove, Brussels and the IMF have no issue with bailing-in the insured depositors, even though the IIF have declared it illegal. In the case of Cyprus they aimed for them first while less secured debt was left untouched. It’s little wonder latest polling in Spain shows 62% of respondents say their deposits are not safe in their own country.

Secondly, and far more importantly in my opinion, is the introduction of bill that allows the use of capital controls which by definition will remove Cyprus from the single market and destroyed the value of a “Cypriot Euro”.

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The capital controls allowed under the bill introduced on Friday are as follows:

  • Restrictions in daily withdrawals
  • Ban on premature termination of time savings deposits
  • Compulsory renewal of all time savings deposits upon maturity
  • Conversion of current accounts to time deposits
  • Ban or restrictions on non cash transactions
  • Restrictions on use of debit, credit or prepaid debit cards
  • Ban or restriction on cashing in checks
  • Restrictions on domestic interbank transfers or transfers within the same bank
  • Restrictions on the interactions/transactions of the public with credit institutions
  • Restrictions on movements of capital, payments, transfers
  • Any other measure which the Finance Minister or the Governor of Cyprus Central Bank see necessary for reasons of public order and safety

So basically if you have a Cypriot bank account, good luck getting anything out of it. What this effectively means, if enacted, is that there is no longer a single currency for the Eurozone. By agreeing to these capital controls the ECB has created a new highly inferior currency in Cyprus. This has to be the worst kind of devaluation you can possibly think of, one that serves no good purpose to anyone.

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What makes this situation ironic is that the EU summit of June 2012 was supposed to resolve these issues once and for all. In fact the first line of the June 2012 EU summit statement was:

We affirm that it is imperative to break the vicious circle between banks and sovereigns.

Since then we have had no action at all on the 4 pillar banking union that was supposed to provide a framework for managing exactly this type of crisis. What should be occurring now is an ESM supported restructure of the Cypriot banking system, allowing for bad banks to be restructured and sold off while the whole of the EU, and the ECB, is seen as under-writing the process in order to support the financial stability of what is left of Cyprus by ensuring the proper functioning of the banking system.

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Instead what we have seen thus far are attempts at overriding treaty law, attempts at undermining the currency union and now attempts to cobble together some last minute plan under the threat of financial collapse and arm twisting.

Nothing unusual for Europe, I guess.