Saturday

22nd Jul 2017

Opinion

Cypriot deal is welcome change to EU approach

  • Cyprus ruins: 'The change makes it politically more feasible to deal with struggling economies which are too big to bail out, such as France' (Photo: jnocca93)

In the wake of the bailout/half bail-in that is the Cyprus rescue package, Eurogroup chairman Jeroen Dijsselbloem said last week the EU is now "going down the bail-in track."

He later clarified his remarks to say Cyprus is a "specific case."

Thank you for reading EUobserver!

Subscribe now and get 40% off for an annual subscription. Sale ends soon.

  1. €90 per year. Use discount code EUOBS40%
  2. or €15 per month
  3. Cancel anytime

EUobserver is an independent, not-for-profit news organization that publishes daily news reports, analysis, and investigations from Brussels and the EU member states. We are an indispensable news source for anyone who wants to know what is going on in the EU.

We are mainly funded by advertising and subscription revenues. As advertising revenues are falling fast, we depend on subscription revenues to support our journalism.

For group, corporate or student subscriptions, please contact us. See also our full Terms of Use.

If you already have an account click here to login.

But despite his caution, the developments signal a welcome change from the EU's handling of the euro-crisis so far, in which the Union turned itself into a piggy bank for insolvent banks and governments.

Dispelling the myth that Brussels should protect depositors and bondholders from any risk of losses is a first step toward sensible management of the situation.

For that reason, the 25 March Cyprus agreement is an improvement on the original one from 15 March, which protected senior bondholders from losses and imposed a levy on small depositors.

 

Repairing the balance sheets of Cypriot banks can only happen through liquidation of bad assets.

When it comes to bank insolvency, Cyprus is in a class of its own.

Its non-performing loans (NPLs) represent a whopping 264 percent of banks tier 1 capital, the main measure of their financial stability, according to the International Monetary Fund.

To put this into context, Italian banks, with an NPL-to-tier-1 ration of 153 percent, and Greek lenders (217 percent), have a much better capacity to absorb losses.

Japan learned its lesson on bad loans the hard way.

When a surge in NPLs helped prompt its current economic malaise during the early 1990s, Japanese authorities merged weak banks with strong ones in an attempt to sweep the country's insolvency problem under the rug.

It did not work.

The newly merged entities earned the name "zombie banks" for a reason. Japan has since endured almost two decades of stagnation.

 

The EU is now trying to avoid making the same mistake with Cyprus.

The Bank of Cyprus - its largest - will be recapitalised via the liquidation of assets held by senior bondholders and a levy of up to 40 percent on unsecured deposits.

Cyprus' Laiki bank - its second largest and most insolvent lender - will close by liquidating its non-performing assets, a move facilitated by wiping out senior debt and an as yet undisclosed (but significant) portion of unsecured deposits.

Its other assets will be shifted to the Bank of Cyprus.

In return for bailing-in the banks, the Cypriot government will receive a €10 billion emergency loan, worth two thirds of its outstanding debt.

 

The deal is not without risk.

Foreign deposits comprise 37.5 percent of all Cypriot deposits (compared to a euro area average of 22 percent), and international investors are now likely to feel nervous about stashing their money in the island's banks.

Cyprus’s enormous sum of highly mobile foreign portfolio investment - totalling 122 percent of its GDP - is unlikely to endure.

Over time, foreign direct investment - currently at a large 89 percent of GDP - is also likely to decrease.

Add to this the "temporary" (weeks, months?) capital controls introduced by the fiat of eurocrats and Cypriot officials and the little Mediterranean island no longer looks like a financial paradise.

Iceland, which instituted "temporary" restrictions on currency convertibility in 2008 is unlikely to remove them completely until 2016.

If Cyprus' economy "tanks," as predicted by EU officials, a second or even a third bailout or bank restructuring may be on the horizon.

Precedents in Greece, Ireland and Portugal indicate this is not the last we have heard on Cyprus.

 

It is also unlikely to be the last we hear about the threat of capital controls, as investors fret over their positions in other weak eurozone countries.

If investors try to exit countries they see as potential candidates for the next bail-in, this could aggravate instead of soothing the crisis.

At a deeper level, creating a monetary firewall around Cyprus contradicts a basic tenet of the single market and one of the main reasons for having a single currency in the first place: free movement of capital across borders.

 

But despite the dangers, the Cyprus agreement marks a welcome sea change in the eurozone's approach to its problems.

The change of course makes it politically more feasible to deal with struggling economies which are too big to bail out, such as Italy and France, if they come under greater pressure.

 

The Cypriot precedent also marks a welcome step in another way - moral hazard.

Risk comes with reward but it also comes with potential loss.

Instead of being propped up by core eurozone countries' taxpayers, investors will have to face the consequences of their bad decisions.

 

The writer is the Warren T. Brookes Fellow at the Competitive Enterprise Institute, a Washington-based think tank

Winter is here for Spitzenkandidat, but he'll survive

Candidates from all political families should be presenting their vision on where the Union should be headed. European socialists want to keep the Spitzenkandidat procedure for future elections.

Greece needs a new plan

Two years into its third bailout, Greece needs to combine the necessary fiscal targets with a new vision. This can be done in the context of the ongoing industrial revolution.

Greece needs a new plan

Two years into its third bailout, Greece needs to combine the necessary fiscal targets with a new vision. This can be done in the context of the ongoing industrial revolution.

News in Brief

  1. Polish parliament adopts controversial justice reform
  2. GMO opt-out plan unlikely to go anywhere in 2017
  3. Slovak PM threatens to boycott inferior food
  4. France takes Google's 'right to be forgotten' to EU court
  5. Turkey accuses German companies of supporting terror
  6. Israel's Netanyahu caught calling EU 'crazy'
  7. UK does not collect enough data to expel EU nationals
  8. Polish president threatens to veto justice reform

Stakeholders' Highlights

  1. European Jewish CongressJean-Marie Le Pen Faces Trial for Oven Comments About Jewish Singer
  2. ACCAAnnounces Belt & Road Research at Shanghai Conference
  3. ECPAFood waste in the field can double without crop protection. #WithOrWithout #pesticides
  4. EU2017EEEstonia Allocates €1 Million to Alleviate Migratory Pressure From Libya in Italy
  5. Dialogue PlatformFethullah Gulen's Message on the Anniversary of the Coup Attempt in Turkey
  6. Martens CentreWeeding out Fake News: An Approach to Social Media Regulation
  7. European Jewish CongressEJC Concerned by Normalisation of Antisemitic Tropes in Hungary
  8. Counter BalanceOut for Summer Episode 1: How the EIB Sweeps a Development Fiasco Under the Rug
  9. CESICESI to Participate in Sectoral Social Dialogue Committee on Postal Services
  10. ILGA-EuropeMalta Keeps on Rocking: Marriage Equality on Its Way
  11. European Friends of ArmeniaEuFoA Director and MEPs Comment on the Recent Conflict Escalation in Nagorno-Karabakh
  12. EU2017EEEstonian Presidency Kicks off Youth Programme With Coding Summer School

Latest News

  1. Dutch coalition talks lengthiest in 40 years
  2. Polish parliament steps up showdown with EU
  3. EU urges UK to clarify its Brexit positions
  4. Law expert: direct EU powers have become too complicated
  5. Winter is here for Spitzenkandidat, but he'll survive
  6. Mafia money pollutes the EU economy
  7. Central Europe should be wary of Brexit stopping
  8. Poland's 'July coup' and what it means for the judiciary

Stakeholders' Highlights

  1. EPSUEP Support for Corporate Tax Transparency Principle Unlikely to Pass Reality Check
  2. Counter BalanceEuropean Parliament Improves the External Investment Plan but Significant Challenges Ahead
  3. EU2017EEPM Ratas: EU Is Not Only an Idea for the 500mn People in the Bloc, It Is Their Daily Reality
  4. Nordic Council of MinistersCloser Energy Co-Operation Keeps Nordic Region on Top in Green Energy
  5. ILGA-EuropeGermany Finally Says Ja - Bundestag Votes for Marriage Equality!
  6. EPSUJapanese and European Public Sector Unions Slam JEFTA
  7. World VisionEU, Young Leaders and Civil Society Join Forces to End Violence Against Girls
  8. UNICEFNarrowing the Gaps: The Power of Investing in the Health of the Poorest Children
  9. EU2017EEEstonia to Surprise Europe With Unique Cultural Programme
  10. International Partnership for Human RightsEU-Kyrgyzstan Human Rights Talks Should Insist on Ending Reprisals Vs. Critical Voices
  11. European Free AllianceEFA Is Looking for a New Intern
  12. Malta EU 2017Conservation of Atlantic Tunas: International Measures Become EU Law