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Vice-President of the European Commission and member of the Commission responsible for Economic and Monetary Affairs and the Euro
Economic Dialogue on financial assistance to Cyprus
European Parliament, ECON Committee, Brussels
8 May 2013
Madam Chair, Honourable Members,
Thank you for the opportunity to discuss the economic support programme for Cyprus with you.
The programme was agreed in March and the first disbursement is expected by mid-May. It will enable Cyprus to avoid a disorderly default which would have had dramatic ramifications for the Cypriot people.
The key questions are: Why did Cyprus find itself in such a grave economic and financial situation that it had to request a support programme? Why did it take nine months from the request to an agreement on the programme for Cyprus? And what are the key elements of the programme to support Cyprus?
The problems of Cyprus built up over many years. At their origin was an oversized banking sector that thrived on attracting foreign deposits with very favourable conditions. The banking problems were aggravated by poor practices of risk management. Lacking adequate oversight, the largest Cypriot banks built up excessive risk exposures.
The Commission warned Cyprus about its accumulating problems early on. Warnings and policy guidance to tackle the banking problems and consequent fiscal and macroeconomic imbalances were included in the reports and Country-Specific Recommendations under the first European Semester in June 2011.
Then, in November 2011, we communicated to the Cypriot authorities that a financial assistance programme would be unavoidable, unless the persistent economic problems were immediately addressed.
Eventually, Cyprus asked for financial assistance, but only in June 2012.
It is unfortunate that it took Cyprus more than half a year to accept the gravity of the situation and the unsustainability of its business model. And it is similarly unfortunate that it took Cyprus another nine months to reach an agreement with the Eurogroup.
Let me remind you that the Commission's role in ESM programmes, which are based on an inter-governmental Treaty, is to act on behalf of the euro area Member States, including when negotiating a Memorandum of Understanding as a member of the Troika.
The Commission's objective during the process of agreeing a support programme for Cyprus has been three-fold: to help Cyprus to the path of sustainable growth; to preserve financial stability in Cyprus and in Europe; and to protect the integrity of the euro and the single market.
The Commission worked hard for a more gradual adjustment of the Cypriot banking system and real economy, while aiming to ensure debt sustainability and adequate financing.
However, indecisiveness, delays and a very firm financial constraint severely limited the options available. The euro area member states were ready to commit support up to 10 billion euros. Cyprus was hence expected to mobilise substantial internal resources to cover the remainder of its financing needs through a range of fiscal measures and by sharing the burden with the creditors of its banking sector.
By March, the economic situation had deteriorated so badly that the scenario of the more gradual economic adjustment was not on the cards anymore. Especially, the state of the banks worsened rapidly.
Soon it became clear that the second biggest bank, Laiki, had to be resolved immediately. The risk of a complete collapse of the entire banking system – and thus a sweeping loss of deposits and savings and a disorderly default of the sovereign – was about to materialise. That would have been a disaster for Cyprus and for the Cypriot people.
In the ten days up to the agreement in the Eurogroup on the 25th of March, when the key elements of the programme were agreed, the banks remained closed. When they re-opened, the Cypriot authorities imposed capital controls to avoid the flight of deposits.
The Commission is closely monitoring the impact of capital controls in Cyprus. The temporary restrictions can be considered justified in the given circumstances, but the Commission will ensure that these measures last no longer than strictly necessary.
One critical step taken at that time was the ring-fencing of Greek operations of the Cypriot banks, which the Troika partners encouraged. The successful execution of this operation has been essential for ensuring confidence and financial stability in Europe.
Madam Chair, Honourable Members,
Let me now turn to the key objectives of the financial assistance programme. The programme will support Cyprus in correcting the excessive economic imbalances from which it is suffering.
Its key objectives are to restore the viability of the banking sector through deep restructuring, to ensure the health of public finances, and to create the conditions for recovery of growth and job creation.
The programme aims at ensuring a smaller but resilient and transparent banking sector. Reforming the legal framework for anti-money laundering and ensuring its effective implementation is a key element in this respect, and a necessary condition for ESM funding.
In terms of fiscal policy, the programme allows Cyprus to eliminate the excessive deficit over a period of four years.
The programme also outlines a comprehensive agenda of structural reforms in order to create the conditions for the renewal of the Cypriot economy, building on its strengths, such as its well-educated and skilled labour force and tradition of entrepreneurship.
The Commission stands by the Cypriot people to help them through these tough times and to rebuild their economy. We will provide technical assistance to Cyprus through a Support Group. I trust that we can count on your support in mobilising the available resources for Cyprus, as quickly and as effectively as possible.
Madam Chair, Honourable Members,
In conclusion, I would suggest that there are four lessons to be learnt.
First, there must be absolute clarity about secured deposits. In this respect, the Eurogroup and Cyprus took rapid corrective action and underlined that secured deposits indeed are secured in Europe.
Second, we need a banking union to prevent the development of unsustainable banking sectors like in Cyprus.
Third, when it becomes inevitable that a country is in need of financial assistance, it is essential that action is taken as soon as this is recognised. Delays are very costly to the economy and society.
Fourth, we have to recognise the structural problems of our decision-making in the area of economic and financial affairs. This calls for the completion of the Economic and Monetary Union, which should bring the current inter-governmental arrangements into the Community framework and strengthen the external representation of the euro area.
Let me end with a semi-personal remark. I worked hard for five years as Commissioner for enlargement to facilitate the reunification of Cyprus. I regret that there has been no decisive progress. Today, it is worth recalling that the reunification of the island would give a major boost to the economic and social development of Cyprus. Now it is indeed high time to revitalise the process leading towards reunification.
Thank you for your attention.