Sunday, March 24, 2013

Cyprus and its Banks: Small Island, Big Problems

Some facts about the Republic of Cyprus:
  • Location - in the Mediterranean Sea; east of Greece and south of Turkey,
  • Population - about 1.1 million people,
  • Joined the European Union in 2004,
  • Gross Domestic Product - about $25 billion,
  • Economy - in a recession,
  • Unemployment Rate - around 15%.
  • Banking System - provides an offshore tax haven to many foreign businesses and is dominated by Russian players.

In recent years, its banking system expanded to several times the size of the Cyprus economy and some deposits were invested in Greece. When the Greek crisis occurred, several leading Cyprus banks became insolvent.

Last week, in order to obtain emergency funding from organizations such as the European Central Bank (ECB) and the International Monetary Fund (IMF), the government proposed a one-time tax on bank deposits, 6% on small (mostly domestic) accounts and 9% on larger (mostly foreign) accounts. This proposal was not well received by the citizens of Cyprus – they attempted to withdraw their bank deposits (to avoid a run on the banks they were closed but should reopen this Tuesday), several Russians traveled in their private jets to determine what was going on and global markets had a short-term negative move as well.

Potential offers of assistance included: 1) Archbishop Chrysostomos II promising the assets of his church to help save the economy and 2) selling off-shore gas rights to Russia’s Gazprom or Rosneftthey were not interested. As a Monday deadline approaches to avoid a banking collapse; hopes are high but convictions are mixed among many players for a short-term solution.

MY TAKE
  • As Cyprus and its confusing mix of bailout options fill headlines around the world, it is likely that the relationship between Russia (a major bank depositor) and Germany (a major player in any bailout effort) add to the tensions in this troubling situation. 
  • Additionally, as the region's finance ministers engage in another round of “save the Eurozone” negotiations, Cyprus provides another example of how fragile and poorly managed the global banking system remains. 
  • At the same time, some investors are wondering if the U.S. economy is resilient enough to decouple from the Eurozone’s economic stress (Note: several Wall Street strategists have become more positive about the U.S. in recent weeks). It is likely that the U.S. will confront some headwinds and markets will remain volatile – expect more short-term positive and negative moves.

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