Sunday, March 17, 2013

A muddled and risky approach to Cyprus

by Mohamed El-Erian

Financial Times

March 17, 2013

Having stressed publicly that Greece was an exception and that no other rescue would impose losses on senior private creditors, European officials embarked this weekend on a controversial path for Cyprus. They did so for understandable reasons, which they will argue are unique. Yet the specifics of the rescue will bring implementation challenges that will undermine its effectiveness and may lead to negative side-effects.

Early Saturday morning, European officials stunned Cypriots by announcing that part of the burden of rescuing the country would be borne by bank depositors. When banks reopen on Tuesday, all account holders will have their savings reduced by 6.75 per cent to 9.9 per cent, depending on the size of their deposits. In exchange, they will receive an out-of-the-money equity claim on banks.

This constitutes a notable expansion in the EU’s application of PSI (private sector involvement).

In addition to committing €10bn of bilateral and multilateral assistance to support a new austerity package, officials went beyond the Greek precedent of restructuring government bonds (and in isolated cases wiping out junior and subordinated bank bond holders) and extended burden-sharing further.


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