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Ripples from Cyprus

ONE of the most interesting banking countries in the world is Cyprus, as technically it is still a country at war with its northern neighbour, making it an unlikely candidate for a safe haven.

Cyprus also has the highest private sector debt to gross domestic product (GDP) ratio in the world, which should have set alarm bells ringing to any savers - let alone Russians - who are taking their money to the island.

The Russians too are an interesting bunch in this picture, as many of them are hiding money in Cyprus due to the Russian taxman. President Vladimir Putin is out fighting the European Union for Russian private interests, and not to collect rightful Russian taxes.

A friend said this of Russian money in Cyprus: “I believe that there is a lot of money from Russia that was stolen by members of the previous communist regime and banked in Cyprus.

"There are many exceptionally wealthy Russians living in Cyprus. I wonder what Putin's agenda is.”

Nothing is what it seems in Cyprus as the overall €15bn bailout is very, very small in the bigger €16 trillion EU picture.

Yes, the bailout is less than 7% of the size of that of Greece and would be the smallest country bailout in the EU by far - smaller than some private bank bailouts in 2008.

Something is different now

Something changed here, and that is that Germany - which has been the major financier of the bailouts -  has an election in September. The citizens are worried that their country’s debt to GDP is staying high at 80%, and that they are picking up the tab for everyone else.

That is one thing; the other is that the never-ending bailouts are starting to get northern Europe in a tangle as country after country in the south has a problem but does not want to fix it.

Italy had an election and those newly elected do not want to fix state overspending; neither actually did the Greeks. The Spanish are also feeling pain, but much is done to avert future social spending cuts which are still needed.

So enter Cyprus: a small EU member which allowed its banking system to rise and rise until it was out of all proportion to its economic size.

It paid 4% plus interest while European Central Bank rates are under 1%, and savers in Germany only get 0.75% a year.

Germany started taxing social pensions to help pay for all the problems, and people with savings in the bank also get hammered as interest rates are very low.

The Finns and the Dutch have also been complaining in recent years about their payments to others, and with the Russians not part of the EU and some making use of guarantees in EU banking systems while evading taxes back home, Cyprus was never going to be such an important country for the EU to bail out.

Britain is not part of the eurozone but is seen by richer members as shouting solutions while not helping to pay for them.

The English are subscribers to the EU with a discounted subscription and many solutions northern Europeans have to pay for via taxes.

They are very, very unpopular at present and you can bet your bottom dollar that the most sane English advice is at least ignored in public.

So when Barclays shouted “fire” about Cyprus, that made the situation worse politically for Angela Merkel.

The wrong medicine leads to bad options

Yes, the wrong medicine was prescribed - “you get a third of the money from your depositors and we will present the rest”. Savers get hammered, even if Russian, and that makes other weak countries' savers very nervous.

Already, I suppose many in Italy are putting their money in German banks because they now fear a “Cyprus” in their own country. This policy was a mistake.

The problem is that the banking system in Cyprus could now be allowed to collapse, as parliament decided that this savers' tax option was not on. This too would make the rest of southern Europe nervous.

The banks are intertwined and I suspect that this may be a small problem that turns big, like Iceland, the Lehman Brothers, etc. Each of the banks allowed to fail would have assets in other banks, and so the situation would broaden.

But that would still be a small problem - the real issue however is the idea that a country goes back to the Middle Ages, as no money in the banks would result in a cash and barter economy and having all savings tied up for decades would also hurt.

Imagine you are have saving in Italy or Spain - or worse, in Greece - where banks are dicey and confidence is just coming back. The confidence in southern Europe could go up in smoke again - big time - with knock-on effects into the Middle East, Russia and other weaker European states.

Again, some world growth could get taken away.

The EU has drawn a line in the sand and said to governments and banks"'we will let you fail or make you pay a price".

This actually should have been worked out before the eurozone was established so everyone knew what the rules were, but it is human to make rules up in a crisis.

My feeling is that this was not the time for it, as the world economy was just getting back to slightly faster expansion and better prospects.

If commodity prices fall again as a result of weaker growth if confidence slips again, then I am afraid South Africa’s current account will again get exposed. The rand may dip yet again and inflation will go another few basis points higher, exposing our already extremely low rates. 

Raising rates is something the South African Reserve Bank would be loath to do, but it creeps in and confidence and growth decline here again.

With ongoing wildcat strikes in the Post Office and parts of agriculture, the economy may also stall just as the first signs of higher growth showed up on the BankservAfrica Economic Transaction Index.

How ironic that another small situation is allowed to get big. Policy makers are looking at too many interest groups to make the right decisions.

Is this 2008 all over again? No, please no.

 - Fin24
 
*Guest columnist Mike Schüssler is an economist at Economists.co.za. Views expressed are his own.

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