Trouble in Cyprus

cyprusbeach_2512587bThe Cyprus parliament has rejected the controversial bailout deal which was announced on Saturday, sending Cyprus President Nicos Anastasiades back to the drawing board.

At first glance, news that a bailout plan for Cyprus has been reached sounds like a good thing. The Cypriot government reached out to the EU in July last year to help end a financial crisis, but the deal that was announced a few days ago may have made the situation worse, not just for Cyprus, but for Europe as a whole.

On March 16, the EU, IMF, and the European Central Bank (ECB) revealed a EUR 10 billion rescue plan for Cyprus, which it would have provided on the condition that deposits in Cypriot banks would be subjected to a one-off levy. Deposits over EUR 100,000 would be subjected to a levy of 9.9%, while smaller depositors would lose 6.75%.

Cypriots weren’t happy with this move and rushed to ATMs across the country to withdraw their deposits. In the wake of widespread protests, the Cyprus government had been attempting to renegotiate the terms of the bailout by scrapping the levy on small accounts. Sources have said that the EU, IMF, and ECB were all pushing for a 15.6% levy on larger deposits, many of which are held by Russians.

The now-defunct deal was met with negativity and many felt Cypriots were already faced with the negative effects of a recession in the form of lower wages and higher unemployment, and the levy would effectively punish the people for the faults of their banking industry. Ironically, a measure aimed at helping banks may put them in a more untenable situation.

Cyprus has been an offshore hub for quite some time. Its banking assets are said to be around eight times the size of the local economy, with foreign investors holding around half of total deposits (around EUR 70 billion). CNN Money reports that Russian companies and individuals have heavy exposure to Cyprus banks, which Moody’s estimates to be worth around $19 billion. Russia was not included in the bailout talks, despite its sizeable interest in Cyprus.

The future of Cyprus’ banking system is up in the air, and this has an impact on the confidence that investors have if considering setting up a business in Cyprus. We will be watching developments in the island nation closely, so please watch this space.

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