Eurocrats created Cyprus disaster

In: Uncategorized

27 Mar 2013

The real culprits in the Cyprus crisis have got away with it. Blame should be pinned on the technocrats who run the eurozone and the politicians who back them.

All the talk of lazy Greeks, Russian oligarchs and a nascent German “Fourth Reich” are misplaced. Let’s start by taking some of the alleged culprits in turn.

The eurozone’s leaders knew that Cyprus was an offshore financial centre when the island joined the currency union in 2008. They cannot claim to have discovered it recently. The first international banking unit in Cyprus was licensed as far back as 1982. Cyprus also had to accept harsh austerity in the years leading up to joining the eurozone as a condition of membership.

It is also disingenuous to suggest offshore finance is somehow improper. Such activity is not illegal. If it were then Dublin, Guernsey, Jersey and Luxembourg, among others, would presumably all be in trouble with the authorities.

As for the Russian depositors the act of depositing money in Cypriot accounts is not illegal either. Yet eurozone leaders have smeared then as money launderers without providing any evidence of wrongdoing let alone a trial.

Perhaps there is a little more credence to the charges against Germany because it played a central role in the bailout negotiations. But the comparisons between contemporary Germany and the Third Reich are absurd. Not only have Cypriot demonstrators shown Angela Merkel, the chancellor, with a Hitler moustache but publications in other parts of Europe have made similar comparisons including Britain’s New Statesman.

However, it should not take much time to dismiss such allegations as absurd. Germany is not pursuing a conscious plan to dominate Europe let alone wage a military invasion of any of other states or commit genocide. Such comparisons only serve to trivialise the true horror of the Nazi regime.

To understand the real cause of the crisis it is necessary to trace it back in steps to its source.

Cyprus’s troubles can themselves be seen as spillovers from the turmoil in the Greek banking system. Two of the islands largest banks, Bank of Cyprus and Laiki (also known as Cyprus Popular Bank), had large holdings of Greek bonds. They also had substantial branch networks and subsidiaries in Greece.

The Greek crisis forced the two banks to writedown their bonds. A liquidity squeeze also hit the banks and the real economy. The Cyprus crisis emerged as a result of financial contagion from Greece.

But this simply begs the question of why Greece got into trouble in the first place. As I have argued previously in Fund Strategy it is wrong to blame the Greek crisis on the people living beyond their means or on “klepto-socialism”.

The problem is rooted in the structure of the eurozone itself. Combining countries with great variations in productivity levels into a currency union was bound to cause problems including the creation of financial bubbles. As I argued in last year’s cover story:

“For Greece the advent of the eurozone meant that it could obtain credit more cheaply than if it had retained its own currency. Until the emergence of this crisis in 2009 the yield on Greek bonds was little different from German Bunds. In effect Germany was helping to underwrite Greek credit.”

When the Greek bubble burst the country’s inhabitants were the first victims. Recent events have shown Cyprus as suffering its indirect effects.

The eurozone’s technocratic leaders are all too keen to lecture Cyprus about its responsibility for the crisis. Yet it is those same hectoring technocrats who are truly responsible for the disaster.

This blog post first appeared today on Fundweb.