Cyprus has become the fifth eurozone state to ask for help from the eurozone rescue funds. It could need up to €10bn. As in Ireland and Spain, this is a story of banks bankrupting the country. According to the International Monetary Fund, Cypriot banks have amassed outstanding loans worth €152bn, over eight times the country’s GDP.
Due to the economy’s close links to Greece, the island’s biggest trading partner, non-performing loans have rocketed to a fifth of the total. The Greek debt restructuring caused major losses on Cypriot banks’ holdings of Greek government paper. In short, “classic contagion” has caused this crisis, says Hugh Pym on BBC.co.uk.
Credit-ratings agency Fitch thinks the banks will need €4bn of fresh capital. That’s on top of nearly €2bn required to recapitalise Cyprus Popular Bank, the second-biggest lender and the trigger for the bail-out request.
The deadline for recapitalising Cyprus Popular under EU bank capital rules is 30 June. The bank had asked for government aid after it lost billions on Greek debt. With private investors loath to cough up, the state was faced with providing 10% of GDP for the bank, blowing its deficit-reduction plan “hopelessly off course”, says Jonathan House in The Wall Street Journal.
Cyprus can’t get the money from bond investors because it has effectively been shut out of markets for a year. Bond yields have rocketed into double digits as fears over its banking system have spread, and now all three major credit-ratings agencies deem government paper junk. Until the Cyprus Popular recapitalisation, the government, which also has to roll over €2bn next year, tided itself over with a low-interest loan from Russia.
Cyprus still hopes to secure a loan from Russia or China to temper its reliance on European money, which is likely to come with strings attached. The austerity and structural reforms consequently on the cards could, in the short term, further undermine the shrinking economy, making the debt problem worse.
From Europe’s perspective, this rescue is “peanuts”, says Neil Unmack on Breakingviews. The main worry is coping with bail-outs for Spain and Italy.