German Chancellor Angela Merkel speaks during a media conference at an EU summit in Brussels on Friday.(Photo: Geert Vanden Wijngaert, AP)
Story Highlights
Economy of Cyprus represents less than 0.2% of the eurozone’s annual economic output
Bailout was still considered crucial to the eurozone’s future
Default even by a small country could roil markets and undermine investor confidence
BRUSSELS (AP) — Cash-strapped Cyprus secured a $13 billion bailout package from its European partners and the International Monetary Fund in a bid to prevent the island nation from entering a bankruptcy that could rekindle the region’s debt crisis, officials said early Saturday.
In a major departure from established policies, the package foresees a one-time levy on the money held in bank accounts in Cyprus. Analysts have warned that making depositors take a hit threatens to undermine investors’ confidence in other weaker eurozone economies and might possibly lead to bank runs.
In return for the rescue loans, Cyprus will trim its deficit, significantly shrink its troubled banking sector, raise taxes and privatize state assets, said the Netherlands’ Jeroen Dijsselbloem, president of the Eurogroup meetings of the 17-nation eurozone’s finance ministers.
“The assistance is warranted to safeguard financial stability in Cyprus and the eurozone as a whole,” he said, briefing reporters after almost 10 hours of negotiations.
People with less than €100,000 in their Cypriot bank accounts will have to pay a one-time tax of 6.75%, those owning more money will lose 9.9%. The measure will be carried out early next week and is expected to net €5.8 billion in additional revenues, Dijsselbloem added, thereby greatly reducing the country’s financing need.
“We found it justified in terms of burden sharing to also involve the depositors,” said Dijsselbloem, noting that it was a “unique measure” because of Cyprus’ outsized banking system.
“As it is a contribution to the financial stability of Cyprus, it seems just to ask a contribution of all deposit holders,” Dijsselbloem added.
Analysts have warned that imposing such a drastic measure could be seen as a watershed moment, undermining the eurozone’s credibility. Although the leaders stressed the levy was a unique measure for Cyprus, they said the same when private holders of government bonds were forced to accept losses in Greece.
The measure therefore risks scaring investors in Europe’s weaker economies, which could lead them to move their deposits to more stable eurozone countries like Germany. In that case, banks in southern Europe’s economies might be considerably weakened and could possibly require new bailouts. That could then weaken the respective governments, which might then need further assistance from their eurozone partners — possibly setting off a vicious spiral.
But Joerg Asmussen, a member of the European Central Bank’s governing council, sought to dismiss fears of bank troubles stemming from the levy, saying the ECB stands ready to provide financial institutions with emergency liquidity assistance.
“The levy, it’s an appropriate tool. It’s really tailor-made to the situation in Cyprus,” he said. “It’s a country in extreme financing need, and what you do is to expand the tax base, not only to residents but also to non-residents,” he said.
Russian citizens are estimated to have at least €20 billion in deposits in Cyprus.
Asmussen stressed that there was no risk of such a levy being implemented in other countries that have already received bailouts, such as Greece, Ireland or Portugal, because those countries’ financing needs are covered by their international rescue loans.
In a sign of how exceptional and urgent a decision the one-time levy is, Cypriot banks are already implementing measures to make sure that depositors cannot withdraw money to shrink the tax basis, Asmussen said. The remainder of their holdings can be withdrawn, he added.
But Cypriot Finance Minister Michalis Sarris added that electronic bank transfers won’t be possible before Tuesday, Monday being a regular holiday in the country. In return for their one-time tax payment, depositors will get an equivalent stake in the bank where they have their account, he said.
“It was a very difficult decision,” Sarris acknowledged, but added that “much more money could have been lost in a bankruptcy of the banking system or indeed the country.”
Cypriot lawmakers are expected to approve a law on the bank levy over the weekend, and the money will be levied starting Tuesday.
“I want to underscore that this is a once and for all levy. We wanted to do it in a way, in a decisive way … to remove any doubt about the future,” Sarris said. “There is no reason whatsoever that deposit holders in Cyprus, existing and new ones, should have any concerns.”
While the Cypriot bailout is many times smaller than Greece’s €240 billion package or Ireland’s €67.5 billion, it is still considered crucial to the future of the eurozone because a default even by a small country could roil financial markets and undermine investor confidence.
Cyprus’ financing needs to recapitalize its banks and keep the government afloat were initially estimated to total €17 billion, which is almost the equivalent of Cyprus’ annual economic output and would have ballooned the country’s public debt to about 140% of its economy, a level the IMF considers unsustainable.
The creditors therefore sought to exhaust all avenues to have Cyprus raise more revenue to reduce the need for external financing.
Losses will also be imposed on the banks’ junior bondholders, the officials said. In addition, Cyprus agreed to increase its capital gains tax, and to raise its corporate tax by a quarter, from 10 to 25%, Dijsselbloem said.
To further reduce the financing needs, Russia was expected to significantly extend the maturity of a €2.5 billion loan granted in 2011 after the country could no longer tap international markets.
The ministers also agreed to make sizeable Greek operations of the country’s two largest banks, Bank of Cyprus and Laiki, eligible for spare rescue cash from Greece’s bailout accord.
Under the bailout deal, Cyprus debt is forecast to reach about 100% of GDP by 2020.
The economy of Cyprus, an eastern Mediterranean island of just over a million people, represents less than 0.2% of the eurozone’s annual economic output.
Cyprus, which first applied for a bailout last summer, wasn’t in imminent danger of bankruptcy, as it faces its next bond redemption in June. But the European Central Bank, concerned that prolonged uncertainty over Cyprus could hurt market sentiment across the eurozone, had pushed for a swift deal, even threatening to cut the country’s financial system off from emergency funding.
The finance ministers’ agreement still has to be approved by parliaments in several eurozone nations. EU officials say everything should be done by the end of the month.
To appease its potential rescue creditors, Cyprus has already accepted an independent audit of its banks, which hold billions in Russian deposits, to soothe concerns voiced by Germany, France and others that they launder dirty Russian money.
Copyright 2012 The
