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12th Aug 2022

Success of Cyprus deal depends on 'social consensus'

  • Barroso on Monday: 'With responsibility on the part of Cyprus, we will ensure that solidarity is provided' (Photo: consilium.europa.eu)

The success of the Cyprus bailout deal will depend on the social consensus around it, says the EU commission, with the island's GDP expected to dive as the size of banking sector is drastically cut.

Speaking in Brussels just hours after a new bailout deal was put together, European Commission president Jose Manuel Barroso on Monday (25 March) underlined that solidarity from euro member states is conditional.

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"With responsibility on the part of Cyprus, we will ensure that solidarity is provided by the euro area," he said.

His warning comes ahead of a planned TV address later on Monday by Cypriot President Nicos Anastasiades to explain the terms of the deal to the Cypriot people.

A previous deal which would have seen a one-off levy on all deposit holders - including the least wealthy, was rejected by the Cypriot parliament.

Under the renewed agreement, Laiki bank, the islands second-largest lender, will effectively be wound down, with all uninsured depositers taking a major hit, possibly losing all their money. Cyprus' biggest bank, Bank of Cyprus, is expected to see savers with over €100,000 take a loss of 30 to 40 percent.

International lenders also want to reduce size of Cyprus' banking sector by over half by 2018 to match the EU average of around 3.5 times GDP.

Currently the banking sector is 7.5 times the size of the economy.

Barroso said that member states would "not be able to support Cyprus with this type of business model," but admitted the effect on economic output is "uncertain" and "depends a lot on way the programme is going to be implemented."

"It depends on political factors that we cannot control. It depends, for instance, on the level of social consensus in Cyprus," he noted.

But the social costs of the deal are expected to be high, with unemployment already at 15 percent.

The island was heavily dependent on its offshore banking centre for both income and employment.

It has little else to sustain the economy except tourism, with potential off-shore gas exploitation still years off.

Meanwhile, lowered GDP will raise the question of whether the €10 billion bailout will result in sustainable debt for the island, with Cypriots facing years of austerity measures to bring the debt pile down.

A number of other questions remain open following Sunday's deal.

These include when banks - closed since early last week - will reopen and whether capital controls will be introduced.

Monday also saw the EU commission launch an ideas paper on longtime financing of the EU economy, in a bid to wean it off over-reliance on banks - which are now lending far less - to finance long term investment in areas such energy infrastructure and climate change.

"It is time we focused on productive capital rather than financial capital and on productive investments," said internal market commissioner Michel Barnier.

The ideas paper suggests a great role for institutional investors such as pension funds and life insurance companies for long term funding.

Speaking specifically about Cyprus, the commissioner said that the island's "financial model has run its course."

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