Gianpaolo Rossini - 08/04/2013

On 2 April 2013 the Cypriot government adopted, two weeks after the closure of the banks, measures to deal with the banking crisis which broke out at the start of the year, and the chronic deficits in the public accounts and in the foreign accounts. Indeed, Cyprus does not only suffer for its banks but also for the macro-imbalances that remind us of those of Mother Hellas, the USA 2007-9, Spain and Ireland 2010-12. The current account balance of the foreign payments, the signal of how much a country spends as compared with what it produces and as a consequence of how much it borrows (or lends) from abroad, has been negative since the year of its Euro membership, 2008, when it was 15.6% of GDP and then moved in 2009 to 10.7%, in 2010 to 9.9%, in 2011 to 8.5 % and in 2012 to around 7-8%. On the side of the public deficit, the difference between public expenditure and fiscal revenues, it goes from a surplus equal to 0.8% of GDP in 2008 to -6.1% in 2009, -5.3% in 2010, -6.5% in 2011 and -5% in 2012.

The large foreign balance deficit with abroad was filled thanks to huge short-term capital flows, above all Russian, attracted by the fiscal incentives and the anonymity. With these resources Cyprus easily funded the foreign debt and expanded its banking sector disproportionately, reaching a banking deposits/GDP ratio equal to 8 (2 in Italy, 3 in Germany) and a level of internal credit on GDP equal to 3.3 (1.5 in Italy, 1.3 in Germany). The surplus availability of capital covers the holes in the economy of the island of Aphrodite. It pushes the Cypriot banks, as happened with the American, Spanish, Icelandic and Irish ones, towards risky operations on the international obligations markets and to a property bubble that is visible on the island to even the random tourist. In short, the Cyprus crisis is a deja vu. Like all the others it stems from the scarce attention addressed to foreign accounts, along with the maniacal discipline for the public ones of the defunct Maastricht agreement and the deceased Washington Consensus. A lack of attention arising from ideological and political laziness. Indeed, we know that sanctioning a country for its public accounts is easy. While correcting the foreign imbalances requires international coordination, above all in a monetary union where the exchange rate is fixed. It is important to invite the country in deficit to reduce its expenditure and the one in surplus to save less.
If we limit ourselves to scolding the wasteful countries then we fall into recession without resolving the imbalance, as a demonstration of the enduring crisis of the sovereign debts in Europe. The second aspect of the Cypriot deja vu is the lack of supervision by the ECB over the banks and an assurance on the Euro deposits guaranteed by the ECB. With an asymmetry: when the Belgian, French, Irish, British or German banks sink, help comes quickly avoiding contagions and damage to the savers so that it almost seems as it there is no need for supervision and European assurance for the depositors. While for the less “core” countries it is not so and at every crisis financial contagion is developed as well as a flight of deposits from the weaker countries to the stronger ones. This makes the strict policies of adjustment pointless, makes the asymmetries of the ECB worse, makes chronic the distances between the interest rates with high rates whereas they ought to be low (countries in recession: Italy, Spain, etc.) and low whereas they should be high to cool down growth (Germany, the Netherlands, etc.).

If the Cyprus story smacks of déjà vu, the policies decided on 2 April under pressure from the troika (ECB, IMF and EU Commission) have no affinities with those hitherto adopted in the countries that have ended up in the same impasse. Actually, in Ireland (obligations and shareholdings cancelled) and Iceland (foreign deposits and shareholding eliminated) something similar has happened, but in a poorly transparent way, also in view of a certain media silence. Moreover, Ireland was rescued by the Euro countries and by Britain which is not a Euro country and Iceland, which in not in the Eurozone, by the ECB, the IMF, the EU and the Scandinavian countries also outside of the Euro. In Cyprus new rules have been set as roof of the rather anarchic institutional imaginativeness that has dominated Euroland. The banking deposits over 100,000 Euros are converted into bonded banking shares to the extent of 37.5%. And in the near future the deposits can be cut back by a further 22.5% with an analogous compensation mechanism. And there will have to be a primary public deficit – fiscal balance excluding the interest paid on the debt - 4% for 2017.

The payments system has undergone restrictions on transfers, withdrawals and cuts in cheques. Other limitations reduce the mobility of capital to and from abroad, including therein the Euro-partners. Temporary rules, according to the commentators. But in actual fact no deadline has been set. And so norms destined to last, at least those passed “temporarily” in Iceland in 2008 and still enforced.

The measures for Cyprus contain principles in total antithesis with the existence of a monetary union that has as its basis, objective and instrument, the perfect mobility of financial resources. Moreover, the lack of guarantees from the ECB for the depositors damages countries hungry for capital and the whole Euro payments system, cancelling out the fundamental benefits of the single currency. It’s a mistake to hit the depositors, as it is to shut down the capital markets in a monetary union. The single nature of the monetary policy has become a chimera and the differences in interest rates between the countries risk becoming the norm rather than the exception, with devastating effects. After these measures the countries that will have to deal with problems akin to those of Cyprus will wonder if it is worthwhile keeping the markets open if the depositors flee towards the northern countries where they risk generating new speculative bubbles. But if the ECB does not give federal guarantees on the deposits, if the ECB does not watch over all the Euro banks, if the ECB keeps its rates higher than Britain, the USA and Japan where the recession is less severe than it is in Europe, if the ECB does not adequately compensate for the irrational intra-Eurozone capital flows that are self-fed, if the Eurobonds are not visible on the horizon, the only solution will be closure. A real step backwards. And what will the next one be?

Gianpaolo Rossini
(University of Bologna)