Cyprus with a land mass of about 7,800 square miles, is located in the Eastern Mediterranean Sea, east of Greece and South of Turkey. Demographically, the country has a population of 1.1 million with 77% Greek, 18% Turkish and 5% other ethnicities with a median age of 35.
Cyprus economy with an alarmingly high fiscal deficit of 6.3% in 2003, was nurtured to good health by 2009 after it implemented a series of austerity measures that gave it a surplus of 1.2% in 2008. However, the Global economic crisis had hit Cyprus hard as it fell back on hard times because of its large exposure to Greek debt, thus contracting the country's GDP by 2.3% in 2012. Consequently, the country was downgraded numerous times in 2012 with agencies like Fitch giving it a BB- rating and warning of further downgrades, which resulted in Cyprus' borrowing costs higher. Cyprus needs 15.8 billion Euros to bail out of the current financial mess.
According to media reports, the Cypriot banking sector is about eight times the size of the economy with almost $19 billion, or one-third of all deposits, coming from Russian sources. The Russian elite use Cypriot banks to funnel ill gotten money to avoid political uncertainty and corruption in Russia, as Cyprus is known for its policy of turning a blind eye towards capital controls as well as the sources of all capital inflows. Dmitry Rybolovlev, the largest Russian investor, has almost a 10% stake in the Bank of Cyprus equalling $8 billion to $10 billion. However, Cyprus economy was systemically damaged due to its exposure to Greece since the onset of Global financial crisis. Similar to Greece and other EU countries, Cyprus was forced to ask the European Union (EU) for a bailout in the recent times, which was rejected by EU, with Germany (Internal politics dictating a hostile proposal in case of Cyprus, as Germany elections are few months away) taking the lead in suggesting that Cyprus should generate 5.8 billion Euros, a fraction of the 15.8 billion Euros from its internal resources as a front end source for the country's immediate financial bail out requirements.
The Cyprus government, with out much leeway, swung in to action by imposing surprisingly huge taxes on the Euro deposits in their country's banks. The taxes imposed were as high as 9.9% on deposits of more than 100,000 Euros and 6.75% on deposits of less than 100,000 Euros, thus targeting to raise 5.8 billion Euros. The main focus of the government was to generate income by taxing Russian elite who were using Cyprus as safe haven for their ill-gotton (illegally earned) wealth. However, country's ordinary citizens, who were already reeling under the burden of county's financial crisis, were also naturally in the line of fire. As it is anybody's guess, banks customers were queuing up to withdraw their deposits prior to the implementation of Government tax announcements. Sensing the mood of the customers, all the country's state run banks have declared extended bank holidays to permit lobbying by Government for a parliamentary vote to this proposal to convert in to a law. However, majority of the Cyprus parliamentarians were against the tax slab rates as proposed by the government and are lobbying strongly to make the tax proposals slightly sweeter by exempting the first 20,000 Euros from tax and suggesting a reduced tax rate of 3% for savings up to 100,000 Euros. Alternately, they also propose to nationalize Pension schemes as well as issue long term sovereign bonds to generate the required 5.8 billion Euros.
The Governments tax proposals and state run banks attitude towards the investors (Closing of banks abruptly) had eroded the confidence of investors and general public alike, across all countries, as they fear that this precedent could become a contagion to all economies.
Although the crisis in Cyprus may not have any direct bearing on the fiscal health of other economies, the Cyprus developments have certainly eroded the investor confidence across the world, thus making the world stock markets unstable despite huge monetary easing in US and better than expected macro economic data in US, China and Japan. Time to brace up for Volatility in stock, currency and commodity markets, across the world.
Cyprus economy with an alarmingly high fiscal deficit of 6.3% in 2003, was nurtured to good health by 2009 after it implemented a series of austerity measures that gave it a surplus of 1.2% in 2008. However, the Global economic crisis had hit Cyprus hard as it fell back on hard times because of its large exposure to Greek debt, thus contracting the country's GDP by 2.3% in 2012. Consequently, the country was downgraded numerous times in 2012 with agencies like Fitch giving it a BB- rating and warning of further downgrades, which resulted in Cyprus' borrowing costs higher. Cyprus needs 15.8 billion Euros to bail out of the current financial mess.
According to media reports, the Cypriot banking sector is about eight times the size of the economy with almost $19 billion, or one-third of all deposits, coming from Russian sources. The Russian elite use Cypriot banks to funnel ill gotten money to avoid political uncertainty and corruption in Russia, as Cyprus is known for its policy of turning a blind eye towards capital controls as well as the sources of all capital inflows. Dmitry Rybolovlev, the largest Russian investor, has almost a 10% stake in the Bank of Cyprus equalling $8 billion to $10 billion. However, Cyprus economy was systemically damaged due to its exposure to Greece since the onset of Global financial crisis. Similar to Greece and other EU countries, Cyprus was forced to ask the European Union (EU) for a bailout in the recent times, which was rejected by EU, with Germany (Internal politics dictating a hostile proposal in case of Cyprus, as Germany elections are few months away) taking the lead in suggesting that Cyprus should generate 5.8 billion Euros, a fraction of the 15.8 billion Euros from its internal resources as a front end source for the country's immediate financial bail out requirements.
The Cyprus government, with out much leeway, swung in to action by imposing surprisingly huge taxes on the Euro deposits in their country's banks. The taxes imposed were as high as 9.9% on deposits of more than 100,000 Euros and 6.75% on deposits of less than 100,000 Euros, thus targeting to raise 5.8 billion Euros. The main focus of the government was to generate income by taxing Russian elite who were using Cyprus as safe haven for their ill-gotton (illegally earned) wealth. However, country's ordinary citizens, who were already reeling under the burden of county's financial crisis, were also naturally in the line of fire. As it is anybody's guess, banks customers were queuing up to withdraw their deposits prior to the implementation of Government tax announcements. Sensing the mood of the customers, all the country's state run banks have declared extended bank holidays to permit lobbying by Government for a parliamentary vote to this proposal to convert in to a law. However, majority of the Cyprus parliamentarians were against the tax slab rates as proposed by the government and are lobbying strongly to make the tax proposals slightly sweeter by exempting the first 20,000 Euros from tax and suggesting a reduced tax rate of 3% for savings up to 100,000 Euros. Alternately, they also propose to nationalize Pension schemes as well as issue long term sovereign bonds to generate the required 5.8 billion Euros.
The Governments tax proposals and state run banks attitude towards the investors (Closing of banks abruptly) had eroded the confidence of investors and general public alike, across all countries, as they fear that this precedent could become a contagion to all economies.
Although the crisis in Cyprus may not have any direct bearing on the fiscal health of other economies, the Cyprus developments have certainly eroded the investor confidence across the world, thus making the world stock markets unstable despite huge monetary easing in US and better than expected macro economic data in US, China and Japan. Time to brace up for Volatility in stock, currency and commodity markets, across the world.
RELIEF FOR CYPRUS (Updated on 25.03.2013)
10 billion Euro bail out deal is reached between Cyprus and European Union just prior to the dead line. Cyprus has agreed to the following terms set by EU:
a. Holders of Cypriot bonds and people with deposits of more than 100,000 Euros in Cypriot banks will see significant losses in their books due to levy of taxes on those deposits. (Depositors with deposits less than 100,000 Euros are completely spared)
b. Cyprus has to shut down its second largest bank and restructure its other largest banks.
The bail out package may be positive for the stock markets in the short term, but structural economic issues still remain in majority of the countries of European unionapart from possible social unrest due to Governments' austerity measures and tax increases, which possibly can generate head winds for the markets.