Cypriot Financial Crisis

• Joined the European Union on 1 May 2004. On 1 January 2008, joined the Eurozone.

• Cyprus’ entire economy equals a mere 0.2% of the euro zone’s entire GDP.

• Bank deposits amount to almost $ 160 billion.

• A tiny isle of around 1.1 million people (2013 estimate).

• An advanced, high-income economy with a very high Human Development Index.

• The whole nations economic output is around $25 billion / GDP per capita of around $27,085

Population estimates of EU Nations

Global rank of EU nations in terms of Human Development Index (HDI)

GDP per person for various EU nations

Currency Pegging

• Fixing the exchange rate of a currency by matching it’s value to the

value of another single currency.

• As the reference value rises and falls, so does the currency pegged to

it. 

• Facilitates trade and investments between the two countries, and is

especially useful for small economies where external trade forms a large

part of their GDP.

• The stable currency creates a conducive environment for investments

as investors do not fear losses on account of currency fluctuations.

Currency Pegging

How is the currency peg maintained?

Currency pegs work only when the central bank has the muscle to intervene in the

market to check the currency from going beyond a permissible band. It should be

able to supply the market with enough dollars in the event of a huge demand at the

pegged rate and in the event of too much supply be ready to buy dollars from the

market. It implies that the central bank must have large foreign exchange reserves.

China has foreign currency reserves of nearly $2.5 trillion

What Perpetuated the crisis ?

• The problems began when neighbouring Greece faced financial and economic meltdown.

• The banks were then exposed to a haircut of upwards of 50% in 2011 during the Greek government-debt crisis.

• For Cyprus, the write down of Greek debt was between 4.5 and 5 billion euro, a substantial chunk of capital.

THE RESULT

• Rise in the capital requirement of banks by EBA.

• Banks were required to have a tier 1 ratio of 9%, and on top of that a buffer to make up for differences in market and book value of government debt.

• Increased burden on the over laden banking system. Requirement of 2 billion euro of additional capital to be recapitalized according to the new guidelines by EBA by the 2 largest banks

• Capital crunch in the market pointing to recession

THE RESULT

Demetris Christofias

• Succession by a Communist Government

• Country with excellent fiscal finances and a banking system with excellent health moved towards an era of over spending, not only for unproductive government expenditure but also raising liabilities by raising pension promises.

• July 11, 2011, an explosion destroyed the power station producing more than half the power supply of the island.

• Crumbling fiscal position creating doubts about ability of sovereign to serve as a temporary backstop, in case that became necessary.

• Loss of confidence of international investors, ultimately losing access to international capital markets in May 2011

• Negative hit to the internal trade and economic activity

THE RESULT

Avoidance of structural adjustments

• Largest banks in Cyprus were put through stress test in July 2011

• Opted for Loan of 2.5 billion euro from the Russian government (large enough for a country with 17 billion euro GDP)

A type of credit facility that helps developing countries become more economically self-sufficient. Debtor nation is allowed to reschedule principal payments to a later date.

• Further deficit accumulation

THE RESULT

Russian Involvement

The Bailout deal

To recapitalize banks and service debt

$ 13 billion bailout

Unemployment across EU nations

A debt crisis, especially on the current scale, cannot be dealt without other than by financial repression. To date, it has taken the form of higher taxes, interest rates below the rate of inflation, directed investment and increased government intervention in the economy. Cyprus marks a new phase of financial repression, shifting the burden increasingly onto savers directly by confiscating savings.