Eurozone: Adjourned game – again

At last night’s Eurogroup meeting, Cyprus moved another small step closer to a bailout. The big issue of possible private sector involvement remains unsolved.

The relative calm in financial markets combined with some tender signs of economic stabilisation have taken the sense of urgency and emergency from most Eurogroup meetings. Contrary to many meetings over the last years, meetings of Eurozone finance ministers have been healthier for ministers who often suffer from too little sleep. Meetings lasting until the middle of the night have again become an exception and are no longer the rule. The fate of the Eurozone no longer depends on make-it-or-brake-it summits until sunrise. Still, several important fundamental issues, such as shaping the future of the monetary union, are still unsolved. Besides further steps towards a banking union (eg, the definition of legacy assets for possible direct bank recapitalisation through the ESM or a bank resolution mechanism) and the first test for the new fiscal framework, the pending bailout for Cyprus remains a crucial issue.

At last night’s Eurogroup meeting, Eurozone finance ministers confirmed its principal commitment to offer a bailout for Cyprus. In June last year, Cyprus had officially requested such a bailout. Now, with a new Cypriot government in place, the final agreement seems to be closer. Currently, the Cypriot authorities are still negotiating with the Troika on the details of the so-called Memorandum of Understanding. While initially the Cypriot government had tried to negotiate a Spanish-style bailout, only targeted at bank recapitalisation, the sharp deterioration of public finances seems to argue in favour of a fully-fledged bailout. Details of the negotiations were not revealed last night but the announcement that the new Cypriot government has agreed on an independent evaluation of the implementation of the anti-money laundering framework in Cypriot financial institutions shows the willingness to make further concessions. Eurozone finance ministers agreed to “target political endorsement of the programme around the second half of March”.

One of the crucial questions of the probable bailout package is not only its scope (bailout light vs fully-fledged bailout) but also its financing. In several Eurozone countries, concerns have increased that a bailout for Cyprus would see taxpayers’ money bailing out what some have called a money laundry paradise. A bailout without private sector involvement could have problems passing national parliaments, particularly the German Bundestag. For a private sector involvement, several options look possible: privatization of state assets, restructuring of the banking sector, a bail-in of depositors and/or bank bond holders or a sovereign haircut as in Greece. Obviously, any of these forms of private sector involvement (PSI) could have unwanted averse effects either on Cyprus (as a bail-in could lead to a wide-spread withdrawal of funds, eventually undermining the entire business model of the economy) or other Eurozone countries as the uniqueness of PSI in Greece would be more than only second-guessed. As so-often during the euro crisis, the eventual compromise will have to balance both political but also economic calculations.