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The Great Debate

Why the EU is right on Cyprus

By Peter Gumbel
March 18, 2013

The reaction to this weekend’s European Union bailout deal for Cyprus has gone from initial shock to rather predictable condemnation. “Europe botches another rescue,” ran the headline on an editorial in the Financial Times. “It’s as if the Europeans are holding up a neon sign, written in Greek and Italian, saying ‘time to stage a run on your banks,’ ” Paul Krugman, the economist and New York Times columnist wrote on his blog.

As widely reported, the deal has an important claw-back component: a one-time tax on the deposits of everyone who has a bank account in Cyprus ‑ Cypriots and foreigners alike ‑ aimed at raising 5.8 billion euros of the total rescue package of 17 billion euros. It’s always possible that the hyper-alarmist scenario of a pan-European bank run actually takes place, although by Monday afternoon, even jittery stock markets across Europe were starting to grow calmer, as EU officials insisted that the Cyprus deal was exceptional.

In fact, there are two compelling reasons why the EU actually has gotten this one right. The first is that Cyprus for years ranked highly on international lists of opaque tax havens, as it reinvented itself in the 1990s as the offshore banking center of choice for Russians. Under growing international pressure, and in order to join the EU in 2004, Cyprus eventually abolished its offshore tax regime and put in place a residence-based one with some clear oversight.

Still, the suspicions about Cypriot banks linger on. Last November, the German foreign-intelligence agency reportedly warned that any EU bailout funds for Cyprus could simply end up in the pockets of Russian oligarchs, according to the newsweekly Der Spiegel. The German agency estimated the amount of Russian money in Cypriot banks at $26 billion – substantially more than the total EU bailout package. Indeed, one Russian businessman, Dmitry Rybolovlev, owns almost 10 percent of Bank of Cyprus, the island’s biggest. (The Bank of Cyprus is also one of the two banks whose soured loans to Greece sparked the crisis in the first place.) Cyprus remains on an Organization for Economic Cooperation and Development “gray” list of countries that have made progress to meeting international standards but have not yet been judged squeaky-clean. (So, too, does Luxembourg, which was the one country supporting Cyprus’s objections in the weekend negotiations).

Under these circumstances, simply cutting Cyprus a check for the equivalent of more than half its annual gross domestic product with no strings attached would be politically incoherent. France and Germany for years have railed about the dangers of offshore tax centers, and have pushed their colleagues around the world at G8, G20 and other meetings to clamp down on abuses and harmful tax competition. The notion of “moral hazard” was much bandied about during the 2007-08 financial crisis, although in the end few were punished. But not to ask for a contribution from the Cypriots themselves would undermine their tough line on tax havens and what the French and German leaders have called the need for a “moralization” of finance.

Indeed, by suddenly showing that even preferred tax havens aren’t 100 percent safe, the EU may have done a great service to international finance as a whole.

The second reason to support the EU bailout is more about economic pain than moral obligation. If you asked the Irish, the Spanish or the Greeks in 2008 whether they would have preferred a very sharp, one-time hit to their pocketbooks to deal with their national banking crises, or, as in fact happened, five years of intense economic pain, with soaring unemployment, rising taxes, cutbacks in social welfare and general impoverishment, the answer may be ambiguous.

It’s not a choice anyone likes making, and the Cypriots, of course, aren’t being given a choice. But there is one interesting precedent for the short, sharp shock approach: Iceland. It was left for dead by the rest of Europe after its banks blew up in 2008, wiping out the deposits of many British and Dutch citizens who had put their money in Icelandic online accounts. However, unlike Ireland or Greece, the Icelanders didn’t bail out their banks with government money that they then sought to recoup by raising taxes or cutting social spending; they let them go bust. Iceland’s president, Ólafur Ragnar Grímsson, in a fascinating interview with the French website Rue89, draws another distinction to the euro zone’s austerity strategy. “We realized that this crisis wasn’t just an economic and financial one, but a profound political, democratic and legal crisis.” The upshot: Bankers and politicians are under criminal investigation, and Iceland has put in place a raft of legislation, including the creation of a special prosecutor investigating why the country got itself into such a mess in the first place.

Cyprus’s population is about three times that of Iceland. But once the panic about their bank deposits subsides, Cypriots might take a closer look at what actually caused the crisis, just as the Icelanders have been doing. For the big question that Cypriots still need to ask themselves is why, despite attracting tens of billions of euros from Russians and others, an amount that easily exceeds the GDP of the island, Cyprus banks are in such a mess that they have almost brought down the whole country. Maybe the lesson is that being an offshore banking haven just isn’t worth it. And if that’s indeed the case, the EU policy that led to that realization will have been more than salutary.

PHOTO: Protesters take part in an anti-bailout rally outside the parliament in Nicosia March 18, 2013. REUTERS/Yorgos Karahalis

Comments
28 comments so far | RSS Comments RSS

Most rational people know that taxation is simply theft undertaken for your own good. Anyone with the means will seek ways to prevent the theft, like finding tax haven countries or loopholes. We all, in our heart of hearts, know we’ve been stolen from. To try and attach morality to the tax haven concept is Utopian and fraudulent. The statement “clamp down on abuses and harmful tax competition” is laughable. Tax competition? Competing with what? The existing highest order of extortion known to mankind that we call governments? Funny how the extortioners want to steal more money from others(the citizenry) in order to get paid by the EU and ensure that THEY exist without harm, all guaranteed on the backs of the very people they pretend to represent. Its criminal. If any private entity tried this they would be imprisoned for running a ponzy scheme.

Posted by LysanderTucker | Report as abusive
 

What about Luxembourg, Malta, Guernsey, Jersey, Switzerland and Lichtenstein ? Why just Cyprus? The aforementioned countries (except Switzerland) have a very similar economic system to Cyprus.Their banking sector is also huge relative to GDP (in some cases even bigger than Cyprus) and all the cash is from Russians, Germans, French etc.

Posted by g.argytakis | Report as abusive
 

Leaving aside the clear daylight robbery, potential ramifications of bank runs in the rest of Europe & foreign capital in EU jurisdiction, let’s focus on why these 2 “contrarian” arguments really do shake the hand of absurdity.

Argument 1: this argument has some validity but is fundamentally flawed. So there are many tax havens as the pdf link demonstrates. This action by the EU et al clearly raises a question mark over the best havens for wealthy individuals and corporations. On that basis, some havens will cement their already strong position – Cayman, Virgin, Bermuda, etc – in to even more powerful havens. Any attack on havens needs to be sweeping to have any meaningful long-term effect. And no, “one by one” is not a valid argument – where are you seeing movement on the front of confronting these other tax havens? Nowhere. They’re outside EU jurisdiction, so their actions, albeit potentially positive (only considering this tax haven point) are non-consequential and give more power to the already powerful.

Argument 2: Firstly, it´s clear that this “one-off” painful hit won’t be one-off for the Cypriots as debt/GDP surges post-bailout in a not-so-dissimilar fashion to Greece. In the unlikely case that we need reminding, Greece is now with its 3rd bailout and nothing is improving. This will happen with Cyprus too, and the sooner we realise this the less money we waste throwing good (if you can really call it that) after bad the better. In fact, Greece is being quietly moved to the 3rd world nation category.

Secondly, and the most intellectually rubbish, is making a comparison with Iceland. Where in all of this are the Cypriots following what Iceland did and letting the banks go bankrupt? Precisely nowhere. The criminal investigations started AFTER they let them go BANKRUPT, not after they were bailed out. On this basis, the idea that “Cypriots might take a closer look at what actually caused the crisis” is akin to a scenario like that of the USA, UK etc. which suffered equally bad banking crisis yet at last count precisely ZERO banking CEOs have been accused of criminal charges. Great closer look, guys!

This final point is a woeful misdirection at best, at worst this charlatan is being paid by somebody to write this ridiculous article.

Posted by Preciado | Report as abusive
 

Taxation isn’t theft, as long as the purpose of the taxation is clearly stated. Nebulous pools of taxation should be fought, but clearly purposed taxes should be accepted. This is a clearly stated tax, and while it sucks terribly it’s a lot better than some nebulous income tax where who knows where the money goes. Canada is fairly good at transparent taxation, with extremely detailed budgets published every year and clearly defines VATs on cigs, petrol, booze, etc.

Posted by CDN_Rebel | Report as abusive
 

I agree with your reasoning under moral hazard and the question about who is being bailed out Cyprus or the Russians? Iceland is a great example on how to handle such economic crisis, however ice land was not told to confiscate deposits by the EU, may be because they were mainly European depositors. The decision to let the banks fail was entirely Iceland’s and that is how Cyprus should have been handled. For EU and IMF to dictate Cyprus to confiscate deposits in the banks is highly reckless as it undermines faith in the safety of bank deposits in the entire banking system under EU. They should have let Cyprus decide their own path in a sense of bail-out and whatever the decision, it would have been seen as a local event in a small island.

I personally think Cyprus would be better-off defaulting than putting Levi on the deposits. It would strengthen their reputation as being business friendly in defiance of outside pressure.

Posted by VJMali | Report as abusive
 

Whatever points the author makes in his mind, they do not justify taking other peoples money without due process in a a democratic, lawful society.

A deposit has nothing to do with banks making loans, its stock and bond holders!

Posted by XRayD | Report as abusive
 

Let’s leave aside for a moment whether this plan was good for Cyprus or not. It is certainly a disaster for European markets because it tells anyone who wants to invest in Europe that what happened to Greek investors was not, as promised by the Eurozone, a one time event. There, they implied that PSI would never happen again. But, in Cyprus they have made it clear that any future bailout of any Eurozone country is bound to include PSI. TAKE SPAIN FOR EXAMPLE:

In the case of Spain, the form PSI is likely to take will be that holders of Spanish sovereign debt are likely to take a major haircut, just as were holders of Greek bonds. If that is what happens, Spanish bondholders will discover that the ECB’s OMT program turns out to be a worthless charade, since it will only buy their bonds AFTER they have been significantly marked down in value. That is the lesson Cyprus tells us.

Unless and until the Eurozone leadership makes it clear that there will be no more PSI, and that the public sector is going to take a haircut instead (i.e. the Bundesbank and other holders of debt will forgive the sovereign debt of countries about to default), no one should feel safe buying the sovereign debt of any of these countries, or putting money in their banks. But, as we all know, that is never going to happen.

Posted by TommyPaine | Report as abusive
 

Oh my God, I can’t begin to count the mistakes and, with all due respect, sheer nonsense in this piece.
First of all, neither Cyprus nor Luxembourg is any longer on the OECD’s grey list, whatever that may mean. Wikipedia says they are, but it’s stuck in 2009. Check your facts before writing a piece for Reuters, please: http://www.stepjournal.org/journal_archi ve/2012/previous_news_digests_-_2012/may _2012/wealth_news_digest_21_may_2012.asp x “There are only three jurisdictions in the entire world that are still on the OECD Global Forum’s tax transparency “grey list”. Two of them – Nauru and Niue – need not be surprised, having signed no tax treaties at all. But Guatemala, which has signed eleven, still can’t get whitelisted”.
Second, Iceland which, perhaps justifiably, you hold up as an example, has its own currency and, since it is the only country in Europe to have recovered pre-2008 GDP levels this, surely, can’t be a coincidence. The whole purpose of the Cyprus deal is to keep Cyprus in the Euro! Maybe you disagree, but in that case please say so. Oh, and you can’t have it all your own way you know, in that case the EU is NOT right on Cyprus, find another title for your piece. Last time I looked the EU was not in favour of anyone leaving the Euro, indeed, under current EU treaty rules, it is impossible to do so!
Third, there is not, as you make out, an alternative: Take much pain now or suffer prolonged misery and suffering, like Greece, Spain, Portugal or even Italy. Cyprus is getting a “memorandum” complete with public sector cuts and austerity, just like those countries did. So, it looks like much pain now and quite a lot of misery later, courtesy of the EU. How can that be right?

Posted by Jnts | Report as abusive
 

Yep, vey lucid article. Peter got it right in every aspect. Question is: Are people living in democracies willing to shoulder their responsabilities under a democratic regime? It was the Cypriots who elected their leaders and while the going was good nobody wanted to see or listen to the consequences of current policies. Same applies to many, many EU countries. For now the Cypriots did not find a chair when the music stopped but the next country is in line for it. This is truly a test of the democratic way of life in a globalised world. And we have no democratically elected leader pushing the essence of what is at stake. They all want to protect their short term interests.

Posted by lisandro | Report as abusive
 

This is another case of the banking industry being reckless and taking risks, and the general populace paying the bill.
Paying proper taxes is one thing, but paying for other people reckless behaviour is entirely different. The guilty bastards (banksters) will probably escape unharmed if they have their money in foreign banks.

Posted by aussie66 | Report as abusive
 

excellent article
someone is thinking beyond the hysteria of the rabble
in this case – the rouble

https://reportingproject.net/offshore/in dex.php/laszlo-kiss-undercover-with-a-ma ster

(quote)

Back in the boardroom, Laszlo Kiss advises the reporter to that the key to avoiding taxes is lowering the price of the product. He suggests selling the product, in this case 1,500 tons of industrial oil that is to be imported from Nigeria into the European Union (EU), at a very low price — to himself.

“Here, in Nigeria, you purchase the merchandise through an offshore company from Seychelles or from Delaware,” he explains. “The offshore company then sub-invoices the imports to a Romanian company. From this point, we make the triangulation. We immediately deliver the merchandise to a Cypriot company. It, in turn, re-sells it to a company in Bulgaria, and from there it returns back to Romania.”

Kiss calls his slick plan “sub-invoicing,” another of the dull euphemisms common in the industry. At each sale, the price changes but the changes are fake — for tax purposes only — because the reporter will own all of the companies himself. For example, an offshore company in Delaware buys the oil in Nigeria for €100. It sells it to a Romanian company for €1. The Romanian company then sells it to a Cyprus company for €1.1. The reporter then pays taxes in Cyprus on the reduced price.

But that is illegal said Sorin Blejnar, president of the Romanian National Agency for Fiscal Administration (ANAF).

“Any operation of this kind, which involves sub-invoicing or changing figures, is called either (tax) evasion or money laundering,” Blejnar. Another expert agreed.

“When you resell the same goods well below market prices, under-evaluating it, you are guilty of several crimes. It is clear that the network you are describing to me is a typical money-laundering network,” said Ionel Blănculescu, former minister-delegate of Romanian National Control Authority.

The Republic of Cyprus is the key strategic location for import-export businesses in Europe. The island country has the lowest tax rate in the EU since it joined in May of 2004 and it is the most commonly used offshore haven The maximum VAT rate on imports is 15 percent and there is no tax for goods heading to other EU countries. There are no custom fees for several types of African mineral oils. Corporate tax rates for companies are just 10 percent and excise taxes are low.

“It is clear that those involved do not want to pay the VAT and their customs duties. Then, the goods can circulate unhindered in the EU. Without question, the undervaluation is not right at all. People actually change the amounts in the transaction documents,” Blejnar said.

Posted by scythe | Report as abusive
 

The point the author makes is interesting and possibly reasonable. However, the problem i see is that there were government guarantees for the safety of my money. And to just ignore those guarantees for the benefit of all including myself without even asking me is robbery and a morally bankrupt concept. As a result the argument the author makes is completely irrelevant. We cannot have laws that apply for some and not others or sometimes and not other times as the King sees fit. That’s not law it’s arbitrariness.

Posted by ofilha | Report as abusive
 

” France and Germany for years have railed about the dangers of offshore tax centers, and have pushed their colleagues around the world at G8, G20 and other meetings to clamp down on abuses and harmful tax competition.”

Yes we must leave the sheep nowhere to run.

Posted by mogar | Report as abusive
 

Peter Gumbel has it all wrong. You tax the bank deposits, and see everybody start withdrawing money from their bank accounts, whether all at once or gradually. Many of these deposits are insured. To break that promise will have very broad consequences. You just wait and see…..

Posted by KyleDexter | Report as abusive
 

So, you condone stealing from the depositors?! You’ve got to be kidding! You’re equating depositors with creditors in a bankruptcy. Can you imagine if an American banking institution went bankrupt from mismanagement and the depositors funds were taken in restitution to the creditors/investors?

Ludicrous!

Of course, that’s what the federal government did when it bailed out the gambling debts of the Wall Street Casinos with taxpayer funds. So, there is a precendent, but a foolish one.

Posted by ptiffany | Report as abusive
 

For once in my life I agree with Paul Krugman. It is insane to confiscate savings accounts in order to finance a bailout for a country. Many middle class Brits retire in Cyprus. You can bet this bone headed move will turn many europeans away from retiring in Cyprus. Britian is smart to distance itself from the boneheads in Brussells. The EU is a terrible idea, always has been and always will be. Why would countries like Britian with its proud history and its many gifts of language, law and civilization to the world subject itself to the EU?

Posted by jkk1943 | Report as abusive
 

A complete distortion. The EU is PRECISELY the reason these
measures came about. The institutions lending know full well they may never get paid back with the economic climate these countries foster. So their asking for collateral. Just like a secured loan. If this thing goes south, it’ll be cold day in hades before another banking group risks capitol this way. There are plenty of places left on the planet to risk investment without this kind of rancor. These banks would do better buying Chinese factorys.

Posted by frek149kie | Report as abusive
 

A complete distortion. The EU is PRECISELY the reason these
measures came about. The institutions lending know full well they may never get paid back with the economic climate these countries foster. So their asking for collateral. Just like a secured loan. If this thing goes south, it’ll be cold day in hades before another banking group risks capitol this way. There are plenty of places left on the planet to risk investment without this kind of rancor. These banks would do better buying Chinese factorys.

Posted by frek149kie | Report as abusive
 

A complete distortion. The EU is PRECISELY the reason these
measures came about. The institutions lending know full well they may never get paid back with the economic climate these countries foster. So their asking for collateral. Just like a secured loan. If this thing goes south, it’ll be cold day in hades before another banking group risks capitol this way. There are plenty of places left on the planet to risk investment without this kind of rancor. These banks would do better buying Chinese factorys.

Posted by frek149kie | Report as abusive
 

A complete distortion. The EU is PRECISELY the reason these
measures came about. The institutions lending know full well they may never get paid back with the economic climate these countries foster. So their asking for collateral. Just like a secured loan. If this thing goes south, it’ll be cold day in hades before another banking group risks capitol this way. There are plenty of places left on the planet to risk investment without this kind of rancor. These banks would do better buying Chinese factorys.

Posted by frek149kie | Report as abusive
 

A complete distortion. The EU is PRECISELY the reason these
measures came about. The institutions lending know full well they may never get paid back with the economic climate these countries foster. So their asking for collateral. Just like a secured loan. If this thing goes south, it’ll be cold day in hades before another banking group risks capitol this way. There are plenty of places left on the planet to risk investment without this kind of rancor. These banks would do better buying Chinese factorys.

Posted by frek149kie | Report as abusive
 

Seriously? You argue that it is ok to steal a percentage of every single depositor’s savings because some of the banks hold large sums of money deposited by wealthy Russians who may have deposited the funds there to hide from Russian authorities. Then you note that one such wealthy Russian businessman owns a 10% equity stake in the bank. I don’t think there is anything wrong with wealthy Russians moving their assets out of Russia to escape Russian taxation (and the possible confiscation by a corrupt Putin led government), but even if you do believe these people are doing something wrong this plan makes no sense. The first people that should get wiped out when a company fails is the equity holders (including the wealthy Russian you name), then in the case of banks unsecured creditors and bond holders, then maybe depositors. This plan gets it backwards, and allows the equity holders who were ultimately responsible for selecting the failed management to stay in place and punishes the innocent savers instead. If you think Mr. Rybolovlev did something wrong to move his money to Cyprus and invest in a bank, why are you rewarding him for his conduct and excusing his inept stewardship?

Posted by seriouslyzzzzz | Report as abusive
 

Why the shock? Our government took the Social Security funds and spent them then told us that SS is an entitlement which is bogus because I’ve been paying into the SS all my life. The reason the SS is broke is because the government spent the money.

Posted by judester | Report as abusive
 

No way!

- The proposed 6% on small depositors was outrageous! The EU-required guarantee on up to 100,000 EUR has to be sustained, not tossed overboard; or else the whole concept of banking becomes suspect, not only in Cyprus, but also in Spain and Italy. For the little people who live in Cyprus, it would be better if the banks were just shut down than to accept this deal: At least they would get their money back.

- For deposits of more than 100,000 EUR: They can be taxed to the necessary amount. There was NEVER any guarantee for accounts bigger than that anyway, so the “moral hazard” issue is fully applicable. And if you want to get the money from the rich Russian oligarchs, this is where it will be.

Posted by nealjking | Report as abusive
 

To put it simply, the EU has decided to bail out itself and Cyprus by using someone else money. It’s like putting your hand in someone’s wallet.

That’s some rotten policy covered with long speeches, great phrases that don’t make sense and are aimed at defending itself from negative reactions of the general public.

Posted by Kovalyonok | Report as abusive
 

Yeah, this is classic. Search for the guilty, punishment of the innocent, reward of the uninvolved. Precisely how were the small savers in Cyprus involved in the financial shenanigans of the banks? And why should they be the ones to pay for it? The author offers up a lot of dreck but doesn’t answer either of those two questions.

Posted by majkmushrm | Report as abusive
 

The root of this problem is private ownership of central banks. We (in the US)have gotten rid of private ownership of central banks before, however, our banksters have repeatedly weaseled their way back in with bribes to politicians. Private ownership is a workable system only combined with strict regulation and oversight. It is also helpful to have bankers fearful of breaking the rules. This is presently lacking. When I see the phony posturing of Euro power brokers protecting the banking elite at the expense of their populations is disgusts me. If this power imbalance is politically required to keep the Euro together, it is not worth the cost. Europe’s population can pull the plug on these schemes by withdrawing their savings from the banks. Put savings in gold or open a non-Euro bank account. Eventually this house of cards is doomed.

Posted by MediocreFred | Report as abusive
 

The criminal pickpocketing of the U.S. saver by the scum at the Fed to line the pockets of the well off in an effort at trickle-down economics is beyond immoral. The commies and other dictators love picking winners and losers and the Fed is no different. Not a lot was said about this in the media but I have started to see more of it. Only by putting those involved in the destruction of the financial well-being of U.S. and world citizens in jail will you see real change.

Posted by keebo | Report as abusive
 

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