In the past few weeks, Cyprus has successfully distanced itself from Greece while the latter slipped further towards either default or exit from the eurozone (Grexit). The main demonstration of this was the successful issuance in late April of a seven-year, €1-billion-euro bond at a yield of 4%.
This was made possible by the passage of the foreclosure and insolvency bills after many delays, although the fact that the government did it so quickly, without waiting for an upgrade by rating agencies, makes one wonder if the Troika will give the thumbs up to the legislation.
Deposits are rising and the infamous Emergency Liquidity Assistance (ELA) continues to fall.
A key reason why Cyprus is better protected from Greece’s fallout today than it was in the past is the disposal of Cypriot banks’ Greek operations in March 2013, as well as the earlier sale by Cypriot banks of any remaining Greek government bonds. The forced sale was very unpopular at the time, but, apart from dumping the ELA on Bank of Cyprus, it seems to have been the right thing to do.
As I have written before, the main fallout from Grexit on Cyprus will be indirect. Greece is not much of a market for services or goods any more, therefore the main impact will be on tourists diverting to a cheaper Mediterranean destination.
The Achilles’ heel
But there is one Achilles’ heel in this account, and that is the Greek bank subsidiaries in Cyprus.
While the Cypriot authorities are not responsible for any capital needs of the banks (meaning bailouts or bail-ins), they are responsible for any emergency liquidity requirements (meaning ELA).
So if the Greek banks, which have lost tens of billions in deposits, call on their subsidiaries for liquidity, then that becomes a problem for Cyprus. Or if people in Greece with accounts in Greek subsidiaries in Cyprus start draining the ATMs in Greece (as they did with their Cyprus bank accounts in 2013), then again we have a liquidity issue.
One possible sign of this happening came in December, when the amount of liquidity drawn from the ECB ticked up to €1.1 billion from €890 million in the previous month. It dropped again to €1.1 billion in March. Digging around other figures suggests that this did not come from Cypriot banks, so one can conclude it could have come from a Greek subsidiary.
I understand that the Central Bank has taken measures to ensure that there is a limit on how much the subsidiaries can support their parents. For example, only a certain amount of funds can be kept overnight in Greece.
As of December 2014, the Greek subsidiaries in Cyprus did not seem to have a liquidity problem.
One was highly liquid, with more than €2 billion on deposit than it had in loans, one had a few hundred million more, while the other had only around €100 million less.
However, this is only as of December and things have got a lot worse for Greece since then.
Moreover, I have only heard about the Central Bank precautions this via third parties. I do not know for sure that this is what they are doing.
That means when clients ask me about vulnerability to Greek exit, I have to couch my judgements with caveats. Reuters reported last week that the Central Bank of Cyprus said it was ready to react to any spillover from the crisis in Greece.
But the Central Bank gave no further details. I can see why no Eurosystem bank would want to admit that they might be planning for Grexit.
But it would help reassure the markets if they gave more details about how they are protecting the subsidiaries even before that happens.
Otherwise we shall have to fall back on speculation and rumour. And that isn’t good for anyone.