The Cyprus Debacle

James Meek

Years ago, in the early days of the financial crisis, Cyprus was one of the first European countries to reassure bank savers of relatively modest means by guaranteeing their deposits up to a limit of €100,000. What this meant was that the government made a promise. Anything could happen to a bank. It could go bankrupt. Branches could crumble into lumps of concrete and shards of glass, servers explode in showers of sparks, cashiers and mortgage consultants plunge flaming from fourth-floor windows, and small savers would still get their money back.

Suppose, for instance, a Cyprus bank adopted lax practices. Suppose it took in deposits from trusting small savers, pooled it with money of uncertain provenance from Eastern Europe – suitcases of cash were acceptable – and used it to gamble, lending it on to risky businesses. Suppose these lax practices weakened the bank to the point where it went bust. Under the deposit guarantee plan, this would not be a disaster. A lousy business would have succumbed to the pressure of the market. The big losers would be the bankers and the fat cats with millions deposited in the banks: they would lose heavily, but what were they doing with so much money if they didn't know how to look after it? The modest savers, those with €100,000 or less, would walk out of the rubble unscathed, not having lost a cent.

How is it, then, that when real banks in Cyprus face actual financial collapse as a result of their conduct, it is not the banks themselves that suffer, nor the foolish rich who stashed their money there, but those savers of modest means who were promised their money was sacrosant? Those who thought they were safe with the guarantee are now being hit with a tax of €6.75 for every hundred euros they have in savings, in order to save the banks that screwed them over. It is true that those with over €100,000 are being made to pay more – €9.90 for every hundred euros – but the percentage game is in itself a game for the rich, whereas the less well-off live in a world of absolutes. A euro savings millionaire still has €901,000 left after the levy. If you're saving up for a €200 plane ticket, on the other hand, and your savings go from €200 to €186.50, you don't fly.

As I write, Cypriot and German politicians are blaming each other for the terms of the deal. This seems to me to be missing the point. Whether it was Germany who was to blame by insisting bank customers help pay for a loan to restructure the Cyprus banks, or Cyprus who was to blame by not wanting to over-tax the rich Russians who have pumped so much money into the island, the fact is that neither side was prepared to insist on honouring the deal to protect the less well-off. Nor did either side, it seems, dare consider asking the big foreign financial institutions foolish enough to lend Cyprus banks €1.7 billion over the years if they would mind taking a loss on that investment.

The most predictable moment in the Cyprus debacle came when George Osborne piped up to cite it as a dreadful warning to Britain to continue on the path of austerity or face disaster. Whatever bad happens in Europe, as far as George Osborne is concerned, is a dreadful warning to Britain to continue on the path of austerity or face disaster.

Recent events in Cyprus have nothing to do with routine government spending, with austerity or stimulus, and everything to do with what happened in Britain, Ireland and Iceland a little over five years ago. What's happening in Cyprus is not, at its heart, about a government failing to pay its way, but about banks failing to pay their way, and having to be rescued by government. If there is a government failing it is not that it spent beyond its means but that it allowed the banking sector to swell to grotesque, unsustainable proportions, like some obscure organ of the body that has bloated up until it can't be removed without destroying the host, and all the resources of the body are consumed by the need to carry it. In Cyprus, the less well-off face a deposit tax to pay for the rescue of their banks by Europe and the IMF; in Britain, we continue to endure spending cuts, higher VAT and the hidden tax of a weakened currency as a consequence of a bank rescue carried out from our own resources. We rescue our banks; who will rescue us?


  • 18 March 2013 at 5:38pm
    streetsj says:
    There is another aspect to the Cyprus plan - the government wants, so far as possible, to keep its financial sector going. it provides jobs, income, taxes etc. If the whole charge fell on the rich depositors they might just up and leave which would leave Cyprus and its small savers (and everyone else) in a bigger pickle. Whether it works is another matter.

  • 18 March 2013 at 5:48pm
    Julia Atkins says:
    As a regular visitor to the island I was amazed how rapidly prices of food and real estate rose over the last ten years. Cyprus had become the most parasitic economy in Europe, with an extremely low corporate tax (10 per cent, two points less than even Ireland) so that the Irish Ferry companies (and others) were registered in Limmasol. Till last week it was cheaper to buy the same brand of halloumi cheese in Green Lanes than in Limassol. Many middle-class Cypriots--accountants, lawyers, real estate wheel;er-dealers, had become incredibly complacent. Looking down on Greece and boasting to each other that 'it could never happen here'. A view shared by the defeated AKEL (Cypriot Communist Party) President and Putin buddy, Andreas Kyprianou. His years in power have been beneficial...for him. He is a multi-millionaire. I wonder whether his money is in Cypriot banks or abroad.
    Surprisingly, James Meek doesn't mention that British soldiers occupying bases in the country have been exempted, unlike many other British citizens on the island. This is creating enormous resentment. Not a few Russian depositors had seen this coming and shifted their money elsewhere. Others are trapped but since the Cypriot banks were a laundry operation for mafia cash from Russia, not too many Cypriots appear to be crippled by remorse.

  • 18 March 2013 at 5:59pm
    klhoughton says:
    "the hidden tax of a weakened currency"

    Huh? A weakened currency is only a "tax" (in the more generic "loss of value" sense) if you are dependent on imports.

    Your exports become cheaper to others, causing higher orders. Domestic savers and spenders are still storing or spending pounds that are worth one pound. It will be a better idea to vacation in Canterbury than Paris, but that isn't a bad thing either.

    The only English losers are importers, who manage currency exposure as part of their business and therefore should be equipped to deal with a short-term devaluation, especially if it restimulates the domestic economy.

    It is true that if you're brain-dead or George Osborne--I repeat myself or, perhaps, unintentionally insult the brain-dead, who after all have no other choices--then you might prefer that French wines and Italian shoes not get more expensive to the benefit of the workers of Hull or Surrey. But of course if you're George Osborne, you've caused currency weakness by stunting growth, so you don't even have those jobs to show for having to spend an extra ten quid on the Pouilly-Fuisse.

    You should only want a stronger domestic currency if you're importing goods because of excessive domestic demand. Absent demand, a strong currency makes life more difficult, which is rather the opposite of the connotations of "tax."

  • 18 March 2013 at 8:52pm
    keith smith says:
    On currency depreciation, James Meek is basically right. The UK spends about one third of our national income on imports. Anything that increases the prices of imports represents a welfare loss. Its true that this may be offset by increased export earnings, and by substitution of domestic demand away from imports towards domestic products (holidays in Canterbury etc) . This is what klhoughton means when he says that "Your exports become cheaper to others, causing higher orders". But here he is being a bit economical with the economics. Export earnings will only rise if export demand is price-elastic. This isn't always so. Its widely assumed that a depreciation will always improve the balance of payments, but (to be a bit technical) this is true only if the price elasticity of demand for imports and the price elasticity of demand for exports sum to greater than one. Its also depends on the pricing behaviour of firms, but that is another matter. If the elasticities are wrong, then depreciation won't help. This isn't so far from what has happened to the UK after the depreciations of 2008 onward. Depreciation can end up like something akin to a tax on the population, as Meek suggests.