Cyprus Reaches Banking Deal, Should Be Safe For At Least a Few Hours

| Mon Mar. 25, 2013 12:15 AM EDT

To the surprise of no one, Cyprus reached a deal at the very last second to bail out its banking system. The Financial Times has the basics:

Under the outlines of the deal, depositors with accounts worth less than €100,000 would not be touched. But those above those levels in Laiki Bank, the second largest and most troubled financial institution, would be severely cut, the officials said. The losses on large deposits in Bank of Cyprus, which will survive as a much smaller entity, have yet to be decided, but could be as high as 40 per cent.

....While the deal spares Cyprus of the sweeping levy on all deposits that caused outrage earlier in the week, it could end up being far more painful for large depositors, including Russian account holders, in both banks. Bank of Cyprus is particularly heavily laden with Russian deposits.

Strict capital controls will remain in place to prevent wealthy Russians from withdrawing all the rest of their money the instant that banks reopen, which is pretty much what anyone with any sense would do if they were allowed to. No matter how emphatically the great and good of Europe insist that Cyprus's problems are now solved for all time, the EU's recent history suggests taking their assurances with a great big shaker of salt.

And it turns out that this isn't all. AP reports that even haircuts this colossal will raise only €4.2 billion. The remaining €1.6 billion demanded by the EU will come from "tax increases and privatizations." The Wall Street Journal reports on the likely result:

"The [deposit] haircuts will have a calamitous impact on Cypriot output, leading to a decline in gross domestic product of 10% this year and 8% in 2014," said Gabriel Sterne at Exotix, a hedge-fund advisory. "We think the peak-to-trough decline in annual real GDP will be in the order of 23%, similar to Greece, but we see risks more on the downside than the upside."

As with the rest of Southern Europe, Cyprus faces crippling job losses, rising business bankruptcies and slumping tax collections, said economists.

That could imperil the country's ability to meet budget targets, something that in turn could call forth even harsher measures and once again stoke fears about the island's long-term future inside the euro zone.

As for possible revenge from the Russian government, there's no word on that yet. Stay tuned.

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