Cyprus may have clinched a deal, but this isn’t a “good” outcome

March 25, 2013
Obsession
Euro Crunch
March 25, 2013

Update (10:10 PM ET):

Where we stand

The deal:

—In the wee hours of the morning, Cyprus agreed to a draft agreement with the troika—the European Central Bank (ECB), the IMF, and euro zone countries—to obtain a €10 billion ($13 billion) bailout that would prevent the country from having to leave the euro zone. Details are still emerging but it looks like Tuesday’s doomsday deadline, when the European Central Bank had threatened to halt its assistance to Cypriot banks, has been averted.

—Cypriot lawmakers have grudgingly accepted that their second-largest bank—commonly called Marfin Laiki Bank—will have to be broken up into a “good bank” and a “bad bank.” This is a step toward resolving the fate of the insolvent bank, which threatens to destroy Cyprus’s financial system. It’s terrible news for Laiki customers, whose deposits over €100,000 would be siphoned into the bad bank and used to pay down the banks bad debts. Laiki’s “good bank” will be folded into the Bank of Cyprus, and Laiki will eventually cease to exist.

Read more details here.

Russian refusal:

—The Russians walked away from negotiations last week. They haven’t come back. Quartz news editor Gideon Lichfield explains that “anything that weakens Europe this much is worth far more to [Russian president Vladimir Putin] than a few billion dollars of private Russian deposits or a tiny little Mediterranean gas field.”

What’s ahead

Cyprus has a pre-planned bank holiday on Monday, giving politicians time to finalize their plans before banks open Tuesday.

At the very least, this deal averts the worst-case scenario, that Cyprus would throw up its hands and leave the euroCyprus’s banks will not lose the life support upon which they’ve been surviving for the last year, as the ECB has pledged to continue supporting the Bank of Cyprus. Letting them fail completely would have been devastating to the Cypriot economy, and probably forced them to leave the euro behind. We’ve explained exactly how that would happen here.

However, negotiations over Cyprus could have a lasting effect. Reports suggest that negotiations over Cyprus have deepened a rift between the EU’s leaders and the IMF. The FT’s Peter Spiegel explains (paywall):

For the first time since the euro zone crisis broke three years ago, officials said the two institutions came into the March 15 emergency finance ministers’ meeting without a joint recommendation on how to structure the Cypriot bailout, a failure blamed on tendentious talks over how to proceed.

Senior officials involved said the tensions have continued over the course of the past week, with the European Commission continuing to attempt to find ways to avoid having Cyprus defray the entire €5.8bn in bailout savings through hits on Cypriot bank accounts despite IMF and German insistence on the measures.

More importantly, the EU’s insistence on wiping out depositors and senior bondholders at the country’s banks has sent an important and ominous signal to the rest of Europe: bank depositors aren’t safe, so if you have your money held in a struggling bank anywhere in the European periphery (think Portugal, Italy, and Spain) it might be time to move it to a bank in, say, Germany.

The fact that this deal won’t go to the Cypriot parliament for approval is the latest sign that democracy in Europe is not as important as keeping the euro alive. As with Greece, euro zone policymakers backed Cyprus’s leaders up against a wall and forced them to accept a solution that’s not likely to be positive for their country in the short term.

In the end, the continuing negotiations with Cyprus indicate that the troika really has its hands full managing the problems of the euro zone. Late night eleventh-hour discussions indicate a lack or proactivity in dealing with the problems, even if the troika can ultimately come up with one that will push Cyprus’s crisis further into the future.

Amid growing political and citizen discontent across Europe, the North is increasingly sending the signal that it may not be willing to save the South. Though Cyprus is small, the difficult negotiations should raise serious questions for other euro zone states.

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