Cyprus is a small country with a population about the same as Indianapolis. Its economy accounts for only 0.2% of the entire output of the Eurozone. Its bailout will only cost about €17bn, a proverbial rounding error in the eurocrisis; yet, the troika will have a very difficult time hammering out a deal acceptable to all sides. Several issues threaten a continued impasse.
Cyprus Financial Minister Michael Sarris has ruled out allowing depositors in Cypriot banks to take any losses, but the Eurozone is not supporting this position. The bone of contention is that the Germans and northern tier do not want to create the appearance that ill-gotten gains of the Russian oligarchs will be preserved by the bailouts. This is actually more than perception; it is reality. Cyprus is a money laundering center:
Somehow a relatively poor country of 840,000 has almost €45bn in banking deposits. That’s almost $70k for every man, woman and child in Cyprus. Most of this money probably belongs to Russians.
While Cyprus is bowing to pressure and permitting a money laundering audit to be conducted in its financial system, it refuses to change its banking secrecy laws. On the other hand, the Eurozone wants assurances that money laundering will stop. This is a tough one. The Cypriot economy has an outsized reliance on the financial sector. Shutting down money laundering would deprive it of a large chunk of its GDP. How will it ever repay the bailout?
How much can Cyprus raise on its own? Not much. Privatization is projected to raise €4bn or so, but projected privatization receipts have proven to be wildly optimistic in other crisis countries like Greece. Who wants dilapidated state properties in a country with questionable property rights?
Will a bailout get done? Of course, it will. The Germans will never allow a default because that price is higher than the political price back home.