What has happened to Cyprus?

Q and A

Q Why is Cyprus in such a mess?

A The country has very close links to Greece so much of its current problems began when the Greek government defaulted on its debts last year. The haircut hit Cypriot banks hard and now they need help. But their government cannot afford to bail them out.

Q How high is the government’s debt?

A At the end of 2012 it stood at around 84 per cent of GDP. But GDP as a whole is only around €17bn (£14.5bn) so a €10bn bank recapitalisation would push that up to a dangerous 146 per cent.

Q How are the banks still afloat?

A They are living on borrowed time. The government had hoped to get the deal through over the long weekend. That was delayed, and they extended the bank holiday to Tuesday, then Wednesday. As a result nobody can take their money out of the banks, and the banks stay afloat. But that cannot go on forever as firms cannot operate under these conditions.

Q What is the European Central Bank doing to help?

A Last night it offered liquidity support to the broken banks, again giving them a lifeline to keep going. But that can only help them cope with existing demands and free up illiquid assets, not solve their underlying need for recapitalisation. Nor can it stop a run on the bank whenever the lenders re-open for business.

Q So what is the plan?

A The Eurozone and the International Monetary Fund had agreed to give the tiny nation a €10bn loan. The loan would be combined with a rise in corporation tax from 10 per cent to 12.5 per cent and a tax raid on bank deposits. The total of €17bn would recapitalise the banks and get government debt down to 100 per cent of GDP by 2020.

Q But that is not happening any more?

A That is right. The plan to raid bank accounts was voted down by MPs yesterday. It proved very unpopular with residents that those with under €100,000 in their accounts could lose 6.7 per cent of their savings. And it was very unpopular foreigners – particularly Russians – that those with over €100,000 could lose at least 9.9 per cent.

Q So what can they do now?

A President Nicos Anastasiades had warned that the banks will go bust without the deal. Right now a bank holiday is stopping the banks collapsing. So the government has to come up with a new plan quickly.

Q Where can he find the money?

A It looks like either the Eurozone or Russia are his best bet. France’s finance minister yesterday insisted no more would be loaned, and the Germans have played tough to make sure its citizens do not have to pay for other countries’ profligacy. So that seems to leave the Russians. They have loaned Cyprus money in the past, but the suggestions are that this time around any loans could be linked to something more tangible than promises, like future gas revenues.

Q Could Cyprus leave the euro?

A Yes. If it cannot get the funds it will default on its debts and have to leave. That has not yet been allowed to happen, though Greece came close last year but struck a last minute deal with other leaders. However the other nations also want to show they are tough on countries who get into trouble with their finances, and they will not be happy that their bailout offer was rejected. It will be a fine balancing act between euro politicians’ determination to show they are tough, and their determination to keep the single currency together.

Q Could Russia save the situation?

A It might bail out the country, but analysts expect any such deal would destroy relations with the EU.