Beware the Cyprus domino
November 22, 2012, 8:45 AM
- Reuters
- Cyprus President Christofias.
Cyprus is running out of cash. The country’s economy is so small that a bailout would be cheap, but there’s no guarantee the government is ready to go along with the tough conditions that would likely be required in exchange for help, said Jennifer McKeown, senior European economist at Capital Economics in a research note. And if Cyprus broke ranks to leave the euro zone, it could trigger an unsettling rush to the exits by others, she said.
Cyprus has been in bailout talks with the European Commission, European Central Bank and the IMF, otherwise known as the troika. The country first asked for a bailout in June. Reports indicate officials aren’t close to reaching an agreement, while rumors indicates the country could run out of funds within three to four weeks. (Although a Reuters report, picked up by The New York Times, quotes the country’s president as saying that a deal is close.)
Cyprus, a favorite haunt of Russian oligarchs, has seen its fiscal position and economic performance deteriorate sharply since the advent of the debt crisis around three years ago, courtesy in large part of the banking sector’s heavy exposure to Greece. Cyprus eventually reached out to Russia for a 2.5 billion euro ($3.2 billion) loan.
McKeown recounts that a credit crunch, necessary austerity measures and a sharp fall in confidence led to a sharp fall in the economy, with GDP contracting by 2.3% in the year to the second quarter of 2012. The country’s deficit is set to rise to 5.7% of GDP next year, while total public debt is set to hit 96.7% of GDP (versus 61% in 2010). That’s left Cyprus in need of a bailout worth more than 10 billion euros, or 56% of GDP.
While that’s equal to around 56% of Cyprus’s GDP, it’s just 0.1% of euro-zone economic output, McKeown noted. And even writing off the entirety of the country’s debt would cost less than 15 billion euros, or 0.2% of euro-zone GDP, she said. See also: Moody’s cuts Cyprus on bank weakness.
But to be fair to other bailout recipients, the troika has little choice but to demand further austerity, leading to a demand for cuts of 1.2 billion euros — topping the 975 million ceiling that Cyprus has said is manageable, McKeown said. The situation isn’t helped by Cyprus’s reputation as a tax haven and base for money laundering.
In the end, the danger is that the situation spirals out of control. McKeown writes:
“The upshot is that there is a risk that Cyprus becomes the first euro-zone country to undertake a disorderly default, which would probably result in it leaving the single currency area. The direct economic impact of this would be minor — euro-zone banks’ exposures to Cyprus account for less than 0.1% of GDP. But the final confirmation that it is possible for countries to leave could raise market pressures on others to follow.”– William L. Watts
Follow on Twitter: @wlwatts
Follow The Tell blog @thetellblog
No comments:
Post a Comment