Live by the hoard, die by the hoard.
Despite the fact that Cyprus managed to secure the cash it needs to keep its ridiculously large financial system from collapsing completely, the Mediterranean island nation will be in for some hard times over the next few years. And make no mistake about it, Cyprus’ banking system was stupidly big. In January there were some €126.4 billion ($162.6 billion) worth of assets on the books of Cypriot banks. That’s nearly seven times the size of the the country’s GDP as a whole.
You’ll notice that the financial system really swelled to its peak in 2010. Deposits at Cypriot banks jumped sharply that same year. Much of those deposits are said to have come from Russia, which finalized an agreement on avoidance of double taxation with Cyprus that year.
Some, including German finance minister Wolfgang Schäuble, have spotlighted round-trip cash flows between Cyprus and Russia as an indication that Cyprus has been a money-laundering center for Russian money. For instance, IMF survey data collected from the Russian government lists tiny Cyprus as the number one destination for Russian direct investment between 2009-2011. And funnily enough, Cyprus was also listed as being the number one direct investor in Russia.
Of course, this isn’t a coincidence. “It is unlikely that Cyprus, with a GDP of around US$23 billion can manage to make such large investments in Russia unless those investments were financed through illicit assets from Russia. The recorded [direct investment] positions merely reflect the round-tripping of prior illicit deposits from Russia into Cyprus,” wrote analysts in a recent report on illicit Russian money flows.
In other words, the only way it would make sense for Russia to be investing this much in Cyprus, and vice versa, is if the banking system is merely being used to launder Russian money.
And that, my friends, is why the European Union was not going to sign off on supporting Cyprus’s ridiculous banking system, without extracting some cash from those large depositors. (The mistake it made, which led to last week’s political stand-off, was to insist on hitting up the small depositors too; the new plan spares them.) Analysts estimate that some of these depositors could lose up to 40% of their money. How do you say “ouch” in Russian?