Friday 19 January 2018

Debt Crisis: Cyprus capital flight accelerates on bank deposit fears

CAPITAL flight from Cyprus has accelerated since eurozone politicians began threatening losses for bank depositors, and may have reached 12pc of the country's GDP over the last month.

Cypriot sources say lenders haemorrhaged €1bn in deposits over the first two weeks of February, heightening fears that mere talk of "haircuts" is deepening the banking crisis as rescue talks drag on between the EU-IMF Troika and the island's new leaders. The Bank of Cyprus reported deposit losses of €1.7bn in January.

Brussels has warned against haircuts for depositors, a drastic move avoided in bail-outs for Greece, Ireland, and Portugal.

Cypriot finance minister Michael Sarris told eurozone colleagues on Monday night that such action would shatter confidence and set off a fresh spasm of the EMU debt crisis.

"There is no way we can entertain the idea of any kind of haircut to any kind of deposits. This would be an accident in the euro zone not caused by markets, but a self- inflicted wound, a self-inflicted catastrophe, not only for Cyprus, but for the euro zone and perhaps even beyond."

Yet politicians in Germany and Europe's AAA core have yet to be convinced that the tiny island with 1.1m people and a GDP of €17bn poses any systemic risk to the currency bloc. Eurogroup chief Jeroen Dijsselbloem refused to rule out losses for depositors, saying the matter would be settled later this month.

A depositor "bail-in" could in theory cut the rescue package for Cyprus from €17bn to €6bn, but this claim is hotly contested and assumes that investors will wait patiently for their punishment.

The crisis is now deepening on every front. The jobless rate hit 22pc in February. The country will run out of money to pay bills in May. An internal report by Brussels says the bank rescue costs may push island's public debt to 145pc of GDP, implying that debt relief will be needed.

Since EMU leaders have vowed never to repeat the mistake made in Greece where they set off a broader crisis by imposing wipe-out losses on investors, this means that the burden may fall on taxpayers in Germany and EMU core.

The Cypriot crisis has been neuralgic in Germany ever since a leaked intelligence report alleged that the island is a haven for Russian organized crime.

Nicosia agreed this week to a money-laundering probe but it is unclear whether this will placate critics in the Bundestag, especially Social Democrats (SPD) needed to back any bail-out. Sigmar Gabriel, the SPD's floor leader, said the business model of Cyprus is based on "Russian oligarchs, Serb mafias, and tax evaders", and dismissed claims that the Cypriot banking system could set off broader contagion if allowed to fail. "It is systemically undesirable," he said.

Analysts say the SPD is seizing on Cyprus to distance itself from Chancellor Angela Merkel's bail-out policies in the run up to the German elections in September, putting her in a delicate position. Cyprus's incoming leader Nicos Anastasiades said his country had been subject to a vilification campaign. "We have nothing to hide. I am determined to end this discussion," he said.

Bank experts say the attacks on Cyprus are deeply confused. Most of the Russian money is in Cypriot branches of Russian banks such as state-owned VTB that are rock solid, or even in large British banks.

"There is no chance Hell that they will go after the these banks because it would be illegal and amount to expropriating the Russian state. It would be the end of the eurozone if they started doing that kind of thing," said one banker.

ECB officials say that any attempt to extend the haircuts to healthy Russian and UK banks in Cyprus would cross legal lines. Benoit Coeure, an ECB board member, said a general bail-in of depositors is out of the question. "I don't think it's time to make experiments now."

Dimitris Drakopoulos from Nomura said a large chunk of the €70bn in deposits in the Cypriot banking system belong to banks from Russia, UK, Singapore, and Lebanon. Most have no more than a "brass plate" presence on the island, and are not linked into the economy in any meaningful way.

The Cyprus Mail says the outgoing Communist government whipped up hysteria against the banks to divert blame from its own mismanagement, greatly exaggerating likely losses. The only Cypriot bank in deep trouble so far is Laiki, which is heavily exposed to Greece.

The risk for Cyprus is that the swirl of claims and the threats of draconian action by EU creditors could push the country into a deeper crisis that becomes self-fulfilling.


Ambrose Evans-Pritchard

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