14 April 2013

Cyprus bail-in revisited: consequences for small economies

1. The news

European Commission draft documents leaked and released on the FT web site are offering a different picture from the previously released details of the bail-in.

First and foremost, in 9 days the bill has spilled over by EUR 6 billion amounting to a EUR 23 billion shortfalls to gap over a 3 years period. The additional burden falls on Cyprus, the total reaching EUR 13 billion.

Second, it will be entirely born by the deposit-equity swap at the new Bank of Cyprus (i.e. post acquisition of Laiki deposits), which nearly doubles to EUR 10.6 billion from EUR 5.8 previously: EUR 5 billion in 9 days (30% of 2012 EUR 17 billion GDP) is quite a number…

Third, Cyprus will sell “excess” gold reserves for a total consideration of up to EUR 400 million: I like the term “excess” in a world of ever devaluing fiat currency and “excess” represents 70% of its 13.9 t of gold! Since the leak, Cyprus has denied they intended to sale gold: what is contained in the report is an hypothesis, of course…

Fourth, bond holders under Cypriot law will be “encouraged” to roll over up to EUR 1 billion that mature until 2016, meaning that the EZ countries and the IMF will only provide EUR 700 million. In 2011 this “encouragement” was deemed by rating agencies (for whatever credibility they have) to lead to a selective default (rating agencies must have learnt from politicians rhetoric: one meets its commitments or one doesn’t; “selective” is bullshit), not talking about a credit event for CDS. Why what was meant to apply to Greece would not for Cyprus?

Fifth, like all assumptions made about Greece by the EU, the ECB and the IMF proved wrong, these will prove wrong for Cyprus: the economic situation will worsen much more than expected the 8.7% real GDP fall in 2013 and 3.9% in 2014. The debt/GDP ratio will go way above 130% in 2015, and not the 126% projected.

2. Cyprus other route

Cyprus lost its independence, like any over indebted country will, France included, not being able to meet its commitments.

To lose its independence, Cyprus had a better course of action: quickly negotiating joining a ruble zone and offering Russia a naval base in Cyprus plus offshore gas rights. Cyprus would have lost its independence but Cypriots would have been better of.

Geopolitically this would have been a coup for Russia: it will loose its naval base in Syria and would have replaced it with an even more strategically positioned one. Russia would also have enjoyed privileged access to Cyprus gas, further surrounding the EU. This also would have open the way for other disappointed countries with the EU to join the fray like Serbia; and eventually why not Greece. The Orthodox church is a powerful cultural and historical link between all these countries.

Cyprus cannot be kicked off the EU (well, European politicians and eurocrats are used to twist and carve treaties and laws to their own advantage), and therefore it would have allowed Russia to have a foothold in the house.

In any case, this would have been a trump card in the hands of Cyprus in its negotiating positions with the troika.

3. The future of small countries

The crisis has demonstrated that all countries in the EU are not equal in rights despite what is claimed (not surprising, it has always been the case: big boys bullying feeble ones). Rules do not apply the same way depending on size: France has hardly ever abided by Maastricht criteria, and always got away unarmed (we are nearing the end of it, since eventually facts are always right over rhetoric). Greece was slammed (they lied, so they got what they deserved), Cyprus walked over and Luxembourg is bullied.

Cyprus and Luxembourg are criticized for over relying on the financial sector. I do not know what makes Germany, France or the US to impose a business model to small countries whose size limits their ability to enjoy a well diversified economy. If they do not like money fleeing, they should offer a fiscal environment where money is happy at home: there is no tax haven if there is not tax hell. With France’s banks over 3 x GDP (more or less Cyprus post bail-in), the financial sector is much too leveraged. In the case of France, the media are increasingly reporting that young educated French national are going abroad to find a job (40-50,000 in 2012 – when one calculates the heavy cost of education and no return from those leaving the country, it will become unbearable at some point). These larges countries should first put their home in order before lecturing others. A few examples: Delaware money laundering machine where the beneficiary owner of a company does not need to be disclosed or the specific local laws that make it very difficult to get rid off an incompetent board or special protections against takeovers; France with its free zones, special tax treatment of Corsica or no income tax in French Polynesia to name a few; and what about the UK with the Channel Islands, The Netherlands with its holding tax efficient regime, etc.

Small to medium size countries where the financial sector allowed them to prosper are increasingly subject to bullying from large ones, the latter specializing in finding scapegoats for their own economic sins.

We are entering a world where democracy is much talked about as never before, but where reality contradicts the words. Small European countries beware, you have been warned.


European Commission: Assessment of the public debt sustainability of Cyprus

European Commission: Assessment of the actual or potential financing needs of Cyprus

Reuters: Cyprus to sell around 400 million euros worth of gold