Cyprus: What are the Russians playing at?

By Felix Salmon
March 22, 2013

Paul Murphy, watching Cypriot finance Minister Michael Sarris returning empty-handed from Moscow, says that “Medvedev and co could not have played a worse hand during this crisis — and it’s not immediately clear why”. His point is that the most likely outcome right now — he calls it “popping the red pill” — is that big depositors at Laiki Bank (read: rich Russians) are likely to lose some 40% of their money. Since that will make Russia very unhappy, why is Russia doing nothing to prevent it?

I don’t pretend to understand Russian politics, but this move seems to me to be a classic high-risk, high-aggression play; think of Medvedev as a geopolitical hedge-fund manager or poker player, and it begins to make a bit more sense.

Firstly, it’s worth noting that Russia is actually moving backwards on the amount of help it’s likely to extend to Cyprus. When the bailout plan was first announced, it included Russia extending its existing €2.5 billion loan to the country by five years, as well as reducing that loan’s interest rate. Now, Russia is refusing to agree even to that.

More generally, Russia is taking an absolutist stance with respect to Cyprus. No, we won’t restructure the money you owe us. No, we won’t buy a bank off you. No, we aren’t interested in your natural-gas reserves. And underlying it all, of course, an unspoken — and all the more powerful for being unspoken — physical threat to any Cypriot who causes powerful Russians to lose billions of euros.

Why would Russia be acting this way towards Cyprus? The obvious answer is that Russia knows exactly who’s sitting around this poker table: it’s not Cyprus that they’re playing, it’s the EU. If Russia were to enter into good-faith negotiations with Cyprus right now, that would help the EU, by reducing the amount of EU support that the island nation needs. Moreover, any deal that Russia made with Cyprus could be vetoed by Germany, or the Eurogroup, or the ECB, or even possibly the IMF. Russia is too big and too important to try to do deals which could be forcibly unraveled on a German finance minister’s whim.

And while we have a pretty good idea what the Russian prime minister is saying to Sarris in Moscow, we have a much less clear idea of what other Russians are saying to Cypriot lawmakers in Nicosia. The Cypriot capital is reportedly full of mysterious Russians right now, and it might not be all that hard for them to nobble a vote in parliament — especially given that just about any vote is going to be massively unpopular with voters. Remember that if the Cypriot parliament does nothing, then Cyprus collapses; we’re going to need a big show of political unity to prevent that. And so far, the only political unity we’ve seen has been against the bailout, not for it.

Which brings me to the blue pill, as described by Murphy:

Cyprus now has a binary choice: become a gimp state for Russian gangsta finance, or turn fully towards Europe, close down much of its shady banking sector and rebuild its economy on something more sustainable.

Murphy says it’s “obvious” which choice Cyprus should take. But it’s probably much less obvious to Cyprus’s parliament. As Paul Krugman says, Cyprus is very attached to its shady banking sector. And what exactly does Murphy have in mind when he talks about an economy based “on something more sustainable”? Natural gas? Well, given Cypriot national ties, it’s easy to see which company has pole position in terms of getting that mandate: Gazprom.

All of which is to say that there’s a real possibility — maybe not an outright probability, but certainly a good chance — that Cyprus will end up taking the blue pill rather than the red pill, and becoming a Russian client state, either inside or outside the euro. After all, Cyprus is a Eurogroup client state right now, and has wound up in this sorry place as a result. If it pops the red pill, it will have essentially no autonomy for the foreseeable future in any case.

It’s also easy to imagine that Putin’s Russia views its relations with the EU as something of a zero-sum game. Russia also has a more than 150-year obsession with acquiring influence, if not outright control, over warm-water ports in Southern Europe. Looked at that way, the loss of Cyprus from the EU to Russia would be a clear loss to the EU and a clear win for Russia.

Which, in turn, might explain why Russia is doing absolutely nothing which might help the EU. It’s making a risky and aggressive move to essentially seize Cyprus from the hands of Europe, and to gain an important geopolitical foothold in the eurozone. The downside to that move is that if Cyprus pops the red pill, then a lot of Russians, especially the ones with deposits at Laiki, could lose a lot of money. But even if that does happen, Russia will be waiting patiently on the sidelines, with a lot of new money if needed, ready to snap up Cypriot assets at fire-sale prices.

There’s no doubt that the best outcome for Cyprus, and for the EU, would be for Russia to extend its help now, before Cyprus’s banks reopen on Tuesday. But Russia doesn’t want what’s best for Cyprus, or for the EU: Russia wants what’s best for Russia. And the way it’s acting reminds me of nothing so much as a classic Wall Street bear raid, designed to drive down the price of something you want to be able to pick up very, very cheap. What’s more, it might even work.

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20 comments so far

And of course the people of Cyprus are once again the victims of all these interests of the “big ones” on the island…or around it…
But then again…who said live is fair after all…or that politics are all about justice :(

Posted by nicolettap2010 | Report as abusive

Finally, someone who agrees with me that this is about Russia versus Germany and that the real issues in this mess are foreign policy questions not the small island’s smallish capital needs.

I have no idea why people think Cyprus would be better off beggaring itself to remain tied to Germany and the Eurozone institutions. The idea that Russia would put up cash just to keep the status quo – which is based on preventing losses for Germany – is what makes no sense. Why would they kick that can down the road?

I think the next to last paragraph is more real than perhaps you believe right now, but with a few twists. It seems to me Russia is playing this as a diplomatic issue where they want to maximize long-term gains, while the Eurozone is playing this as a financial matter where they want to minimize short-run losses.

Posted by jomiku | Report as abusive

Yes every now and then a German government comes to believe its problems(land shortage,capital shortage etc) can be solved at the expense of Russia. It generally end in tears.

Posted by Babeouf | Report as abusive

What if the Russian government is okay with their most powerful mobsters taking a 40% haircut? Wouldn’t that weaken the mob against the government’s interests?

Posted by anon20130322 | Report as abusive

Felix, just a small meta-comment. What is the purpose of linking to a tweet of some random guy saying that ‘Anyone in #Cyprus who authorises haircuts on #Russian depositors is likely to live in fear the rest of their lives, hence the resistance!”.

This is pretty much definition of hearsay – “someone on the internet happens to have said something in passing that I agree with, so I’ll link to it”.

IMHO linking should be reserved for actual content – perhaps a news story of a politician in country X being killed after authorizing a haircut on Russian deposits in the past or a statement made by actual Russians to this effect.

I know that you spend a fair bit of time thinking about links, paywalls & such and thought I should raise this point.

Posted by OmonRa | Report as abusive

I liked Murphy’s article. It’s about time someone from the City of London castigated Cyprus for its excessive dependence on lightly washed money, non-resident capital and the financial sector. Hopefully they can build an economy based on something more sustainable. I mean the Cypriots.

Posted by johnhhaskell | Report as abusive

Why should Russia care about its oligarchs? It seems to me their power structure is more secure without them so their loss is its gain, especially when their assets are offshore and out of reach.

Posted by MyLord | Report as abusive

You normally research your pieces so well, but as with so many Western journalists, why bother researching when there are so many ready cliches close to hand?
I love the “unspoken” threat – it must exist, because no one is talking about it.
Look, Russia is clearly thinking strategically, as the Europeans were, when they said they wouldn’t approve a deal that included loans from Russia, and as the Cypriots were when they were trying to play the Russians against the Europeans.
The first thing that anyone close to this situation will tell you is that the exact extent and provenance of the Russian money in Cyprus is not clear. I have worked in finance in Russia for over 20 years, have dealt with a lot of money going via Cyprus, and know a little bit about it. Cyprus is mainly to Russia as Delaware is to the US. Just about all commercial real estate gets transferred in ownership to Cyprus, as it’s tax efficient. Yes, dirty money goes via Cyprus (as documented by Browder in the Magnitsky files) but most of it doesn’t stay there – it goes off via tax havens and trusts and ends up in shadier places, like Switzerland or Florida. But Russian money in Cyprus is way too obvious to the Russian authorities to be hidden there, and no one wants to be for long under the eye of a proper money-laundering system (although it needs improvement, this is true).

Only Vladimir Putin knows how many anguished calls he is getting from oligarchs who have money stuck in Cyprus. We own stock in Russian companies, and all of them swear blind that their Cyprus subsidiaries have their main bank accounts outside Cyprus. One had USD 70 mln there to pay for an oil rig, but they had transferred this to the seller before the deadline. They have tens of thousands of dollars in Cyprus to pay for maintenance of their legal entities, but the big money isn’t there (they say).

I’ve looked through the accounts of the Cyprus Central bank to try to get an idea of whose money it might be, but I don’t see anything there. It’s possible the Cypriots don’t know, because the corporations holding the money are anonymous shells.

I think Putin was aware that if he bailed out Cyprus, he would be seen as bailing out his own friends, and he didn’t want that. Also, he has been calling for money to be returned from offshore, and wants to use this as an example to persuade the oligarchs to return money. Russian TV even dug up an old clip of him in 2002 where he warned against using offshores. So his message to his most important audience, that in Russian, was “I told you so”. Maybe he’s saying something in private, your beloved “unspoken threat” but we have no idea what was “unspoken”.

I don’t think Putin cares very much about Cyprus, except as a bargaining chip. Medvedev has said that Russia will only decide what to do once the Troika has decided – this is actually a relatively responsible thing to do. Let the Europeans sort things out, and come in with sovereign wealth money if it makes financial sense. If the Europeans want Russian help, and they want to trade, Russia will happily bargain, but at a European level, and probably mainly about access to gas markets.

Russia doesn’t want Cyprus’s gas, as it has more than enough of its own, that is less and less easy to sell as time goes by. The Cyprus gas is a pig in a poke, as it’s offshore, and if they find anything, it will be immediately disputed by Turkey and Israel. The Russians have billions of cubic metres of their own undisputed gas that they will want to sell in the future. If anything, they want the Cyprus gas _not_ to be exploited. If the Europeans want the Russians to help out, they will have to help Gazprom. The Europeans know this, so they are not asking.

Posted by tgma | Report as abusive

You normally research your pieces so well, but as with so many Western journalists, why bother researching when there are so many ready cliches close to hand?
I love the “unspoken” threat – it must exist, because no one is talking about it.
Look, Russia is clearly thinking strategically, as the Europeans were, when they said they wouldn’t approve a deal that included loans from Russia, and as the Cypriots were when they were trying to play the Russians against the Europeans.
The first thing that anyone close to this situation will tell you is that the exact extent and provenance of the Russian money in Cyprus is not clear. I have worked in finance in Russia for over 20 years, have dealt with a lot of money going via Cyprus, and know a little bit about it. Cyprus is mainly to Russia as Delaware is to the US. Just about all commercial real estate gets transferred in ownership to Cyprus, as it’s tax efficient. Yes, dirty money goes via Cyprus (as documented by Browder in the Magnitsky files) but most of it doesn’t stay there – it goes off via tax havens and trusts and ends up in shadier places, like Switzerland or Florida. But Russian money in Cyprus is way too obvious to the Russian authorities to be hidden there, and no one wants to be for long under the eye of a proper money-laundering system (although it needs improvement, this is true).

Only Vladimir Putin knows how many anguished calls he is getting from oligarchs who have money stuck in Cyprus. We own stock in Russian companies, and all of them swear blind that their Cyprus subsidiaries have their main bank accounts outside Cyprus. One had USD 70 mln there to pay for an oil rig, but they had transferred this to the seller before the deadline. They have tens of thousands of dollars in Cyprus to pay for maintenance of their legal entities, but the big money isn’t there (they say).

I’ve looked through the accounts of the Cyprus Central bank to try to get an idea of whose money it might be, but I don’t see anything there. It’s possible the Cypriots don’t know, because the corporations holding the money are anonymous shells.

I think Putin was aware that if he bailed out Cyprus, he would be seen as bailing out his own friends, and he didn’t want that. Also, he has been calling for money to be returned from offshore, and wants to use this as an example to persuade the oligarchs to return money. Russian TV even dug up an old clip of him in 2002 where he warned against using offshores. So his message to his most important audience, that in Russian, was “I told you so”. Maybe he’s saying something in private, your beloved “unspoken threat” but we have no idea what was “unspoken”.

I don’t think Putin cares very much about Cyprus, except as a bargaining chip. Medvedev has said that Russia will only decide what to do once the Troika has decided – this is actually a relatively responsible thing to do. Let the Europeans sort things out, and come in with sovereign wealth money if it makes financial sense. If the Europeans want Russian help, and they want to trade, Russia will happily bargain, but at a European level, and probably mainly about access to gas markets.

Russia doesn’t want Cyprus’s gas, as it has more than enough of its own, that is less and less easy to sell as time goes by. The Cyprus gas is a pig in a poke, as it’s offshore, and if they find anything, it will be immediately disputed by Turkey and Israel. The Russians have billions of cubic metres of their own undisputed gas that they will want to sell in the future. If anything, they want the Cyprus gas _not_ to be exploited. If the Europeans want the Russians to help out, they will have to help Gazprom. The Europeans know this, so they are not asking.

Posted by tgma | Report as abusive

You normally research your pieces so well, but as with so many Western journalists, why bother researching when there are so many ready cliches close to hand?
I love the “unspoken” threat – it must exist, because no one is talking about it.
Look, Russia is clearly thinking strategically, as the Europeans were, when they said they wouldn’t approve a deal that included loans from Russia, and as the Cypriots were when they were trying to play the Russians against the Europeans.
The first thing that anyone close to this situation will tell you is that the exact extent and provenance of the Russian money in Cyprus is not clear. I have worked in finance in Russia for over 20 years, have dealt with a lot of money going via Cyprus, and know a little bit about it. Cyprus is mainly to Russia as Delaware is to the US. Just about all commercial real estate gets transferred in ownership to Cyprus, as it’s tax efficient. Yes, dirty money goes via Cyprus (as documented by Browder in the Magnitsky files) but most of it doesn’t stay there – it goes off via tax havens and trusts and ends up in shadier places, like Switzerland or Florida. But Russian money in Cyprus is way too obvious to the Russian authorities to be hidden there, and no one wants to be for long under the eye of a proper money-laundering system (although it needs improvement, this is true).

Only Vladimir Putin knows how many anguished calls he is getting from oligarchs who have money stuck in Cyprus. We own stock in Russian companies, and all of them swear blind that their Cyprus subsidiaries have their main bank accounts outside Cyprus. One had USD 70 mln there to pay for an oil rig, but they had transferred this to the seller before the deadline. They have tens of thousands of dollars in Cyprus to pay for maintenance of their legal entities, but the big money isn’t there (they say).

I’ve looked through the accounts of the Cyprus Central bank to try to get an idea of whose money it might be, but I don’t see anything there. It’s possible the Cypriots don’t know, because the corporations holding the money are anonymous shells.

I think Putin was aware that if he bailed out Cyprus, he would be seen as bailing out his own friends, and he didn’t want that. Also, he has been calling for money to be returned from offshore, and wants to use this as an example to persuade the oligarchs to return money. Russian TV even dug up an old clip of him in 2002 where he warned against using offshores. So his message to his most important audience, that in Russian, was “I told you so”. Maybe he’s saying something in private, your beloved “unspoken threat” but we have no idea what was “unspoken”.

I don’t think Putin cares very much about Cyprus, except as a bargaining chip. Medvedev has said that Russia will only decide what to do once the Troika has decided – this is actually a relatively responsible thing to do. Let the Europeans sort things out, and come in with sovereign wealth money if it makes financial sense. If the Europeans want Russian help, and they want to trade, Russia will happily bargain, but at a European level, and probably mainly about access to gas markets.

Russia doesn’t want Cyprus’s gas, as it has more than enough of its own, that is less and less easy to sell as time goes by. The Cyprus gas is a pig in a poke, as it’s offshore, and if they find anything, it will be immediately disputed by Turkey and Israel. The Russians have billions of cubic metres of their own undisputed gas that they will want to sell in the future. If anything, they want the Cyprus gas _not_ to be exploited. If the Europeans want the Russians to help out, they will have to help Gazprom. The Europeans know this, so they are not asking.

Posted by tgma | Report as abusive

With regards to Russia’s desire for having a warm water port in the Mediterranean, it could be that Limassol is viewed as a replacement for the port that Russia may lose in Tartus, Syria once Bashar al-Assad’s regime is overthrown.

Posted by blakegoud | Report as abusive

@MyLord

” Why should Russia care about its oligarchs? ”

Because they are the ones running the show in Russia and policies are made to suit their needs, not those of the country large. The very same way bankers run the show in Cyprus, which led to this insane “bail-in” scheme.

Posted by Frwip | Report as abusive

There are a number of reasons for the Russian behavior:

First, and most likely is that they believe that Frau Merkel will demand a haircut of the Russians under any circumstances, both for political advantage, and because of the natural hostility of former residents of Warsaw Pact nations.

The second reason is that if the ultra-rich is Russia get dinged, in the future, they may decide that a small tax bill is a reasonable price to pay for an EU and IMF which try to take most of it.

The third reason is that the Russians have been VERY concerned about their near-abroad for centuries, it’s where they have been invaded from, and they feel that an expansion of the EU presages and expansion of NATO, which they see as a ring of steel intended to threaten them.

Note that the reasons above are orthogonal: They neither reinforce nor interfere with each other, so it might be all of the above.

Posted by Matthew_Saroff | Report as abusive

Yes, Russia wants Cyprus. For Cyprus, it’s a good deal to take the “red pill”. Russia will back up the Christian south in the next battles with the islamic north. The EU will just send flowers.

Matthew Saroff has it right about the gangsta money in Cyprus. Not only does the Kremlin benefit, but so does Russian society. Because as real tax payments increase in Russia, the Kremlin needs to pay more attention to keeping those who pay the taxes in a good operating environment.

And, the Kremlin has battled the oligarchs before. Literally. Members of the Duma have been machine gunned to death on the streets of Moscow in the past. The perception that most Americans have that Russia’s oligarchs run the country the same way Wall Street runs our White House and Congress is quite mistaken. Russian politics and society couldn’t be more different.

Russia is in a win-win here. If the EU makes Cyprus crash its banks and all the gangstas lose their hineys, that forces them to kiss the boots of the Kremlin. If Russia eventually takes over Cyprus’ banks then the gangstas have to kiss the Kremlin’s boots or lose their hineys. Russia can levy a tax, payable to the Kremlin – good enough for some nice dachas around Gelinjek. Russia’s way of levying taxes is not like the USA’s. Some may get shorn, and others (more cooperative) left shaggy.

Who else wins? Switzerland. The Swiss win big as the banking center that gangstas can really trust.

Posted by BrPH | Report as abusive

I think the mistake everyone is making is to view Russia as a monolithic entity with single common interest.

There are multiple parties involved. First there’s Russian government. It might be willing to help, but it can’t do much except to loan money (which wouldn’t help because the EU defined a debt to GDP cap for Cyprus and any new loan from Russia will reduce the amount Cyprus will get from EU by the same amount.) Besides, Russian government simply does not have that much money. (For perspective, annual expenditures of the Russian government on defense, public safety and law enforcement, combined, add up to somewhere around 50 to 60 billion dollars.)

Then there are large investors (oligarchs), they are able to help, but they are driven by self-interest, most of them have little to no money tied up in Cyprus, and, for them, bailing out Cyprus is mostly throwing good money after bad. They’d need a really sweet deal before they cough up a penny. Apparently Cypriot gov’t could not make the deal sweet enough

Finally, there are smaller businessmen, bureaucrats (Russian corruption is epic and there are many very wealthy bureaucrats in the country), etc. Those are the ones that _do_ have money in Cypriot banks, but they don’t have much say in the matter.

Posted by Nameless | Report as abusive

Just to elaborate on my point. If you look at what Russian newspapers are reporting about the failure of the talks, the story is, essentially: “Cypriot representatives met with Russian investors and discussed selling oil rights and bank shares … Russian investors weren’t interested. Prime Minister Medvedev spoke to journalists and said that talks will continue and parties will keep trying to find a solution.” (As to the identities of investors, Gazprom and Rosneft are named specifically.)

While it is possible in principle that, given proper motivation, Medvedev could lean on Gazprom hard enough to force it to buy worthless Cypriot oil rights or to become a part investor in a bank that will most likely fail within 6 months and wipe out the entire investment, it’s far from obvious that Medvedev is sufficiently motivated to do that.

Posted by Nameless | Report as abusive

Well, from Russia it is viewed purely as blatant defrauding depositors of their money out of general hostility towards Russia. Which is more curious, when you know that Russian “oligarchs” are generally safe, holding almost no money in cyprus banks. It is just money of moderately well-off people, some owning small businesses, preparing for retirement in mild weather resort. And this “warm port obsession” is something so foreign to Russian officials of any level thinking and general public alike. What sort of medieval logic is this? Mediterranean trade routes and ports lost their importance like 500 years ago since discovery of America and sea-route to India. I just cannot imagine how you can be serious about it. Vodka, balalaika and warm sea ports. Please!

Posted by DenisP | Report as abusive

The real victims are the ordinary people who have bank accounts in Cyprus and who have worked years to save their money. With no debt, no fancy cars, no fancy houses, it’s criminal for the European Union to persecute and introduce a course of action to destroy the lives of we honest hardworking people. What is 100,000 euro in the bank when you are stuggling to keep a small business running? So many honest people have lost so much.

Posted by livingincyprus | Report as abusive

Since when is laundering money incorrect ! Yea the oligarchs need a place to launder, big discussion, within the controlled media perhaps, but so ? if it is then lets look look at HSBC and the old BCCI. Which did the same for the Mexican drug cartel and black ops for governments Oli North period;

Banks trade to be allowed to trade on the premise they can be used when required and bailed out later by joe public. I guess the Libro fixing isnt even worth a mention. Which is of course more corruption and not a jail term given to date.
This is a game as ever and the poor suffer. The Euro is a fraud. Its time Cyprus followed the Icelandic model and the rest of us these these banker controlled governments to do the same. Blame Germany no not really but those that want a single government and single currency.

Posted by DESMOND2013 | Report as abusive

Russia is run by billionaires, just like the US. So all you self righteous people are not in any position to judge a single Russian. What happened to our own banksters????

Nothing.

And why should Russia not think of itslef. I think this is a smart move on their part!

Posted by KyleDexter | Report as abusive
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