No bailout without bail-in for Cyprus?

Yesterday evening, the Cypriot parliament brought the euro crisis back to the centre stage. The “no” vote on the bailout plan could have marked a new and uncertain stage in the entire euro crisis.


In the end, no single Cypriot parliamentarian was in favour of the bailout package, decided last week by the Eurogroup and the Cypriot government. In last night’s vote, 36 members of parliament voted against the proposal and the other 19 members abstained. The most controversial part of the bailout is the levy on bank deposits. Even a slight revision of the original plan, namely an exemption of deposits below €20,000 did not change parliamentarians’ minds. With the “no” of the Cypriot parliament, there is no bailout for the time being.

So what is next? The ECB already stopped playing hardball and announced last night that it would provide liquidity to Cyprus “within existing rules”. This can buy time but will not solve the Cypriot problems. With the genie of the deposit tax out of the bottle, time is of the essence. Re-opening the banks without a solution would probably lead to a massive capital flight.

In fact, Cyprus has two main ways out of the current deadlock: i) a renegotiation of the current bailout terms with the Eurogroup; or ii) finding other financial sources to fund the required €5.8bn in the bailout.

At the current juncture, a softening of the bailout terms looks unlikely. The Eurogroup will want to keep maximum pressure on Cyprus, stressing that the ball is with Cyprus and that the Eurogroup’s offer for a bailout is still valid. However, let’s not forget that the Eurogroup statement from last week did not quantify any amount the deposit levy should yield but was kept rather general, saying that “the Eurogroup further welcomes the Cypriot authorities' commitment to take further measures mobilising internal resources, in order to limit the size of the financial assistance linked to the adjustment programme. These measures include the introduction of an upfront one-off stability levy applicable to resident and non-resident depositors. Further measures concern the increase of the withholding tax on capital income, a restructuring and recapitalisation of banks, an increase of the statutory corporate income tax rate and a bail-in of junior bondholders.” In European language this could eventually offer some room for manoeuvre.

Finding other financial sources seems to be the last straw in the eyes of the Cypriot government. There were several reports that Cyprus was trying to get financial support from Russia. Other options could be the increase of other taxes or privatisations. A combination of several options has recently been proposed by Russian energy giant Gazprom which according to media reports has offered Cyprus a plan in which the company will undertake the restructuring of the country’s banks in exchange for exploration rights for natural gas in Cyprus. Clearly an option with far-reaching geopolitical consequences.

However, even if Cyprus were to find other ways to finance its own contribution to the bailout package, it is doubtful whether the Eurogroup would go along with it. Last night, German finance minister Schäuble reiterated on German television that according to him the business model of the Cypriot economy had failed and needed a make-over.

Another option for Cyprus could be to come up with an own alternative for a private sector involvement, by for example exempting all insured depositors from the tax and replacing uninsured deposits above €100,000 with so-called bank certificates of deposit, linked to future natural gas revenues.

Earlier in the euro crisis, Greece called Angela Merkel’s bluff and the threat of being expelled from the Eurozone. It looks as if Greece’s neighbours now think that they can also call the Eurogroup’s bluff. They might be wrong. Even if the Eurozone eventually will probably offer some room for manoeuvre, it is hard to see that the German government will give up the demand for private sector involvement and far-reaching reforms of the Cypriot economy.

German ZEW increases in March

The German ZEW index increased to the highest level since April 2010 in March. The ZEW index which measures investors’ confidence now stands at 48.5, from 48.2 in February; the fourth consecutive monthly increase. At the same time, investors have become somewhat more positive on the current economic situation. The current assessment component increased to 13.6, from 5.2 in February, its highest level since August 2012.


The positive contagion in financial markets continues to comfort financial analysts. Over the last four weeks, financial conditions for the German economy have improved further. Oil prices dropped somewhat, the euro weakened by more than 2% and the German stock markets increased by almost 4%. At least in Germany, Mario Draghi’s positive contagion seems to spill over to the real economy. The start to the year was still a bit jolty with retails sales and exports up but new orders down. However, the economy should gain further pace in the coming months.

The experience of the last years has shown that as long as the euro crisis is simmering on a low flame, the German economy remains a crisis beneficiary. However, as soon as the crisis boils over and German businesses and consumers start to worry about the future of the Eurozone, the economy also suffers. Judging from today’s ZEW reading, the Italian elections fell in the first category. Let’s now hope that Cyprus will not fall in the second.

Bailout with bail-in for Cyprus

With the principle agreement on a bailout, Eurozone finance ministers gave the green light to make Cyprus the fifth country receiving financial aid.


The real party only started after the end of last week’s EU summit. Earlier than expected, Eurozone finance ministers agreed on the conditions for a bailout for Cyprus. The bailout programme for Cyprus will be a fully-fledged one, aimed at stabilizing the financial sector, fiscal adjustments and structural reforms to “support competitiveness as well as sustainable and balanced growth, allowing for the unwinding of macroeconomic imbalances”. As announced earlier, there will be an independent evaluation of an anti-money laundering framework. Cyprus has agreed to do a lot to restructure its economy and to increase tax revenues. Probably the most important decision is the one-off levy on bank deposits in Cyprus. This deposit will be 6.75% on deposits with up to 100 000 euro and 9.9% on deposits with more than 100 000 euro. This tax should raise 5.8bn euro. However, measures like “the increase of the withholding tax on capital income, a restructuring and recapitalisation of banks, an increase of the statutory corporate income tax rate and a bail-in of junior bondholders” indicate that the country will get almost a complete overhaul. The size of the bailout package would, in principle, be 10bn euro. Now, the Cypriot parliament will have to agree on the terms of the bailout and other national parliaments will have to give the final green light.

This new bailout package is the result of balancing two – sometimes opposing – rationales: an economic and a political one. Politically, it would have been hard to sell a bailout for Cyprus in core Eurozone countries without some kind of bail-in. Economically, however, the bail-in of bank depositors has the potential to create new turmoil and possible bank runs in other peripheral countries if people start to fear similar treatment in the future. During the weekend, political doubts rose in Cyprus and the parliamentarian vote on the bailout was postponed to today. First smaller changes or fine-tunings to the depositor levy have already been announced. To avoid a bank run, depositors who keep their bank accounts for two years will receive securities linked to future revenues from the country’s gas reserves. Moreover, other options currently under discussions are the exemption of smaller deposits from the levy and other sweetener to encourage depositors keeping their money at the banks.

The consequences of last Friday’s decisions are still hard to predict. Today, there will be a bank holiday but tomorrow could start with long queues in front of Cypriot banks. Will depositors in other peripheral countries believe that Cyprus is a special case or will they also run to their banks? Everything seems possible. Fact is that the financial rescue of an island with less than 800 000 inhabitants marks a next step in the euro crisis: after the haircuts on Greek sovereign bonds, there now is the depositor bail-in. A clear message that rescue actions exclusively funded by tax payers money are a thing of the past.

Van Duitsers en kakkerlakken

Afgelopen zaterdag was het weer feest bij een voetbalwedstrijd van mijn zoon. Een sportieve match tussen 10-jarige jongens eindigde ei zo na in een gevecht. De ouders van de thuisploeg slingerden het bezoekende team vanaf de zijlijn vanalles naar het hoofd. De kinderen op het veld waren er duidelijk door geïntimideerd. Na een kort moment van verwondering probeerde ik de boel te sussen. En zoals dat gaat, werd ik zelf het nieuwe doelwit. 'De Duitser heeft het gedaan.'

Hoewel een vurige aanhanger van Die Mannschaft zal Angela Merkel, bij gebrek aan nageslacht, mijn ervaring bij het voetballen niet aan den lijve hebben ondervonden. Maar in Europa beleeft ze iets soortgelijks. Hier is vaak te horen dat bezuinigingen en structurele hervormingen alleen maar moeten vanwege Angela Merkel. Recessies, hoge werkloosheid en wanhoop. Allemaal de schuld van Angela Merkel? Een grote denkfout. Hervormingen en bezuinigingen zijn broodnodig om de eigen economie weer op orde te krijgen, niet om Frau Merkel gelukkig te maken. Haar persoonlijke geluk hangt niet af van de Spaanse of Nederlandse huizenmarkt, het gebrek aan internationale concurrentiekracht van de Italiaanse en Franse economie, of de Griekse overheidsfinanciën.

Volgens Nobelprijswinnaar Paul Krugman steunt Merkels beleid zelfs op kakkerlakkenideeën, onuitroeibaar en altijd terugkerend. Ongefundeerde kritiek. De eurozone bezuinigt zich niet kapot, maar heeft zich het afgelopen decennium wel tot over de oren in de schulden gestoken en kapot besteed. Op dit moment betekent 'kapot sparen' voor alle landen, behalve Duitsland, alleen maar: minder snel schulden maken. Ondanks alle kritiek moeten de regeringsleiders van de eurozone doorgaan op het ingeslagen pad. De gekozen aanpak is flexibel genoeg.

Deze week verschuiven de regeringsleiders de prioriteit officieel weg van nominale doelstellingen naar structurele inspanningen. Zo kan duidelijk worden gemaakt dat men niet de ogen sluit voor de moeilijke economische omstandigheden , maar ook de noodzaak van bezuinigingen en houdbare overheidsfinanciën niet loslaat. Tegelijkertijd is het hoognodig om de noodzaak van hervormingen te benadrukken en het tempo hoog te houden. In landen zoals Frankrijk en Italië moet dat tempo zelfs nog fors omhoog.

Altijd met het vingertje richting de Duitsers wijzen is niet correct. De Duitsers winnen toch altijd. In ieder geval mijn zoon, want zijn team won met 3-0.

Deze column verscheen vandaag in het Belgische dagblad "De Tijd"

Germany's structural reforms - Role model but not a blueprint

Ten years ago, Germany ended its reform deadlock. The reforms of the Agenda 2010 have contributed to the current strength of the economy but are no blueprint for the rest of the Eurozone.

Today, it is exactly ten years ago that then-chancellor Gerhard Schröder gave his blood-sweat-and-tears speech in the German Bundestag, preparing the country for a series of economic reforms, known as the Agenda 2010. The current strong economic performance of the German economy combined with a balanced budget has given rise to new celebrations of the Agenda 2010, proposing it as a blueprint for structural reforms in the rest of the Eurozone.

The structural reforms were mainly aimed at making the labour market more flexible, creating more jobs and making social security systems more sustainable. The main tools were a reduction of unemployment benefits, privatisation of job agencies to bridge the mismatch between vacancies and job-seekers and tax reductions. In the first two years after the start of the reforms, German unemployment actually continued to increase and breached the 5-million mark. It took until 2006 before the economy started to accelerate again. The economic recovery, however, was not only the result of Schröder’s reforms. The reforms also coincided with wage moderation (even embraced by the unions), corporate restructurings and outsourcing, low interest rates and a favourable global economy with the emergence of the Chinese economy as an important trading partner. Interestingly, the first two years of structural reforms were accompanied by only mild fiscal austerity. Between 2003 and 2006, the German cyclically-adjusted deficit improved by roughly 0.5% GDP on average per year.

During the 2009-crisis, the labour market benefitted from earlier reforms but also – and probably even more – from fiscal stimulus (car scrap scheme) and the subsidised short-time work schemes.
The empirical success of Schröder’s reforms is still disputed. While proponents point to the new strength of the labour market and the economy, critics stress the increases low-wage sector and the growing phenomenon of working poor. Indeed, in the first years of the reforms, new jobs were almost exclusively created in the low-wage sector. This, however, has changed. Since 2010, employment growth has spread through the entire economy, starting to support private consumption.

For the German economy, Schröder’s Agenda 2010 was crucial – not only in terms of the actual but also in a broader meaning. The reforms ended a period of self-pitying about the German role as sick man of Europe and reform deadlock. However, while this symbolic impact can clearly be used as a role model for other Eurozone countries, the actual reforms should not necessarily be used as a reform blueprint. Each Eurozone country will have to find its own blood-sweat-and-tears Agenda 2020.

EU Summit - Don't miss the after-party

Today's and tomorrow's European Summit should leave financial market participants rather untouched. However, the after-party of Eurozone finance ministers Friday evening should be followed closely.

When European leaders meet in Brussels today and tomorrow, the sense of urgency and emergency has disappeared. It does not look to be another night-braking or even make-it-or-brake-it summit, but more like a conversational group therapy. However, while the summit should probably fall short in producing far-reaching results, it should at least pave the way for the first test case of the new fiscal framework.

In recent weeks, the discussion amongst policymakers and economists about the right policy mix has flared up again. While critics of the Eurozone’s mix of austerity and structural reforms cited cockroaches and hamsters to make their point, the proponents have pointed to reform progress in peripheral countries. This week’s European Summit should emphasise the need for reforms and austerity. However, the Summit could give the official green light for a shift of fiscal surveillance. Instead of focussing on nominal deficit targets, the new fiscal framework is likely to shift towards structural efforts, not to an overburdened, battered economy with additional austerity measures. Beneficiaries of this regime change should be France and the Netherlands. Both countries run the risk of receiving a fine for not bringing their fiscal deficit below 3% of GDP this year but have delivered the required structural efforts. These two countries should soon receive an additional year to achieve the nominal deficit target.

Next to the fiscal regime shift, record-high unemployment in the Eurozone will be on the economic agenda of EU leaders. The social and political impact from high unemployment could be the biggest threat to the survival of the Eurozone. European leaders could pick up earlier ideas for some kind of solidarity fund to tackle at least high youth unemployment.

And there is more. Yesterday, a special meeting of Eurozone finance ministers was announced for Friday evening. Obviously, the meeting will be on Cyprus and the unsolved issue of a possible bail-in. Several core Eurozone countries have been pushing for a bail-in of depositors as part of a bail-out package for Cyprus. A bailout without private sector involvement could have problems passing national parliaments, particularly the German Bundestag. German opposition parties already signaled that – contrary to earlier bail-outs – it would not support the government. 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.

Apparently, a new proposal is currently circulating. Cyprus could levy a tax on deposits or increase other taxes to reduce the size of the required bailout package. While this could help improving Cyprus’ debt sustainability, it is questionable whether it would meet core countries’ political demand of some kind of private sector involvement. The discussions at Friday’s meeting will not be easy.

It is obvious: While the big summit could fall short on tangible decisions, the after-party should not be missed.

German IP points at bumpy industrial recovery

German industrial production remained unchanged in January, from an upwardly revised +0.6% MoM in December. On the year, industrial production is down by 1.3%. While production in the manufacturing sector dropped by 0.2% MoM, driven by a sharp decline in capital goods, production in the construction sector more than offset the December decline, increasing by 3% MoM.


The German industry has stabilised after the decline since late-summer. However, it is still not a sharp and healthy rebound. Looking ahead, production expectations and the Ifo index have increased to the highest levels since April last year and the industrial safety net of filling order books and inventory reduction has strengthened gradually since last summer. However, yesterday’s new order data illustrated that the way out of the contraction will not follow a straight line. The negative side-effects from the crisis in most neighbouring countries have become a speed limit to any industrial recovery. Finally, in the short term, there is even a risk that the harsh winter weather could delay the industrial rebound a bit further.

Soft data for the German economy has been more than encouraging for already several months. Now, the first batch of hard data for the start of the year sends mixed signals. While the solid labour market and a sharp increase in retail sales in January already confirmed the growth-supportive role of consumption, the strengthening of industrial activity remains a very gradual and choppy one. At least some kind of rebalancing of the German economy.

All in all, the German economy looks still set to leave the contraction of the fourth quarter behind, returning to growth in first quarter of 2013. However, it currently rather looks like a cosy ride on a country road than frantic ride on a German highway.