A Financial Bailout Sooner Or Later?

Despite the election results of last week, there still seems to be much negotiating to do as to whether Cyprus will receive a bailout from the European Union.

Initially, there had been little enthusiasm for the idea. Mr Schauble of Germany had made it clear that “no” was the answer. There were many elements that he found troubling – too many to overcome it seems. Then a little back and forth moved him closer to the idea. Now it seems that Germany has agreed that a bailout is possible and should happen, but the possible terms seem to remain a mystery.

There can be little doubt that this shows just how much power Mrs Merkel has in Europe. There is an old phrase in finance, “He who has the gold makes the rules”. In this instance it is she.

Since Germany will be paying a hefty percentage of any potential bailout, whether Angela Merkel feels willing and able to push the idea through the German Parliament is all important. Without her support there is no help.

With the prospect of an electoral stalemate in Italy and these negotiations with Cyprus financial markets around the world went into something of a short-term tailspin. The gentle complacency about the eurozone crisis seems to have ended and, when combined with the corruption scandal and economic woes in Spain, it will surely come roaring back.

Now it will be up to the new centre right leader of Cyprus Nicos Anastasiades to negotiate terms with Germany and Europe.

Update 27/03/2013:
Poor Cypus has dominated the news cycles for days now as the story about their bailout has rolled onwards. From reports it seems as though the country faced some very stern negotiating in Brussels leaving few options. The first, included rules to apply a levy on bank account holders (bailing them in) to help fill the shortfall was refused by the Cypriot parliament. By applying the levy to all savers, it would hit those with few assets and send a frightening precedent to savers throughout the EU that money in the bank is not safe.

For quite obvious reasons, the banks in Cyprus have been closed for days. If they had re-opened, they would surely have been emptied by now.

Several days of wrangling and a new deal was announced in the very last moments. The new deal protects savers with account balances of up to 100,000 euros, but will apply a levy (as yet an unknown percentage) on amounts over that. It is expected to be a significant number.

This will have the effect of closing Cyprus as an offshore location. Since banking is a very major part of the economy, this will be very painful for the local economy. Your author has read opinions that suggest that a fall of between 15 and 20% of GDP in the next three years is possible. That would put Cyprus into a depression. One can only presume that this will be horrendous for businesses of all shapes and sizes and the public will certainly suffer significantly.

By forcing such measures onto the banking system, there will be much less credit available. This will have a harsh impact on companies. For many small businesses, credit is one of the key elements that enables increased working capital to fund business growth. Without it, there will be far less job creation, restricting the economy still further and a poor period for the stock market.

At the time of writing the banks are still closed and only limited cash withdrawals are possible from ATMs. The plan is for the banks to re-open tomorrow, the fact that this is Easter weekend provides a limited amount of time for the banks to be deluged by worried savers. Fingers crossed that a full blown bank run does not develop – though it might – and that if one does, it does not cross the Mediterranean Sea and impact other euro nations such as Spain and Italy, where the banking sectors are already weak and mired in corruption scandals.