Cyprus Gets 'Strings Attached' ?10bn Bailout, Investors Could Send GBP EUR Rate Higher

Published: Monday, 18 March 2013 09:00 BST - Written by Frank Davies

STORY LINK Cyprus Gets 'Strings Attached' ?10bn Bailout, Investors Could Send GBP EUR Rate Higher

The weekend currency market shutdown brought news of yet another eurozone bailout. The eurogroup of Finance Ministers announced, not unexpectedly, that they had agreed with the International Monetary Fund to provide an emergency advance to the debt-addled state of Cyprus in an attempt to help salve its desperate fiscal position. The €10bn bailout came with one notable twist, which marks a sea-change in the attitude to emergency funding by the eurozone’s policymakers – this time the emergency funds will be partly paid for by a levy on domestic savers. Investors holding under €100,000 in Cypriot savings accounts will have to pay a one-off tax of 6.75% on their holdings, whilst savers with holdings of over €100,000 will have to give up a hefty 9.9% of their holdings.

Up to this point, bailout packages from the EU /ECB/IMF troika have been provided on a ‘no strings’ basis. Although this bail-out was of a far smaller magnitude than some of the previous emergency packages provided for larger nations than Cyprus, the message from the eurozone’s leaders is clear. A line in the sand has been drawn and future bailouts are likely to come with a pronounced downside for domestic savers, reflecting the ‘moral hazard’ implicit in such an action.

The Pound euro exchange rate (currency : GBP EUR)ended last week lodged in the middle part of the 1.1500s. The market’s reaction to the weekend news regarding Cyprus’s bailout remains to be seen. It would appear possible that investors may not like the eurogroup’s new tack. There is a danger involved in punishing investors holding deposits in debt-troubled nations. If such investors feel that there is a likelihood of a bailout in the nation where their funds are resting, then they will be likely to shift their funds out of that state’s retail banking sector in order to avoid losing up to 10% of their holdings to a potential EU levy. This means that, moving forward, any suggestion that an EU nation may be heading towards a bailout could trigger a run on that nation’s bank’s which could cause a complete destabilisation of that nation’s economic system. This Cypriot ‘strings attached’ bailout could spell bad news for the single currency.

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