For the architects of the Cyprus bailout — the German government and the International Monetary Fund (IMF) — there was no doubt that the central aim of the shock therapy was to bring down an oversized banking sector that was failing.
That applied especially to the Bank of Cyprus, the island's biggest, and Laiki, the number two. The latter was essentially insolvent, surviving on a liquidity lifeline from the European Central Bank.
Christine Lagarde of the IMF wanted both banks, representing half of the Cypriot banking sector, closed down. In the end, Laiki is being closed down with its bond and shareholders facing huge losses and €4.2-billion in deposits could be lost.
The Bank of Cyprus will become a shadow of its former self, deposits frozen pending restructuring and downsizing and wealthy depositors facing losses probably of 30% to 40%.
A "casino economy", said the French government. "A dysfunctional business model," said the Germans.
With a banking sector seven times the Cypriot gross domestic product (GDP), Lagarde insisted it was unsustainable and that it should be more than halved to about three times of GDP by 2018.
In a time of embryonic eurozone bank supervision, with the European Central Bank being made the supervisory authority for all eurozone banks, the statements from Berlin and Lagarde bore the hallmark of a new policy aimed at taming financial services and getting bloated banking sectors under tight control.
It explains why several small countries are trembling at the prospect of what might be in store. Malta, Luxembourg and Cyprus are the three smallest countries in the European Union (EU) and eurozone.
Cyprus's days as an offshore tax and banking haven are numbered. Relative to GDP, tiny Malta's banking sector is even bigger. Its finance minister sat next to his German and Cypriot counterparts at the first Cyprus bailout meeting in Brussels 10 days ago and was extremely chastened by what he witnessed. After experiencing Wolfgang Schäuble, the German finance minister, up close, he wrote an article in the Malta Times, saying God help his country if it encounters similar problems in the eurozone.
Then there is Luxembourg, which, along with Austria, is the eurozone's biggest champion of banking secrecy. Luxembourg is the wealthiest country in the EU and the second smallest, but its banking sector exceeds its GDP by a whopping factor of 23. The big difference, of course, is that these banks are subsidiaries of the European and United States banking giants, with Germany and France to the fore.
Nonetheless, Jean Asselborn, the Luxembourg foreign minister, warned Berlin on the eve of the Cyprus bailout that it needed to watch its words, that no one was complaining that the German car or arms industries were too big. — © Guardian News & Media 2013