17 April 2013

VP Rehn: Statement on Cyprus in the European Parliament

We are about to finalise a support programme for Cyprus. It will enable Cyprus to avoid a disorderly default with all its dramatic ramifications for the Cypriot people. This marks the beginning of a joint effort to bring Cyprus onto the path of sustainable growth and job creation.

The process that led us to this agreement has been very difficult, and not without mistakes. The Cypriot authorities, the Member States and the EU Institutions had to find unique solutions to exceptional problems. They had to do so without previously tested instruments and – in the final stages of negotiations – under enormous time pressure.

Thus, there are at least two key lessons to be learnt from this difficult process. 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, the developments in Cyprus demonstrate the reasons why a Banking Union is a necessary element of a true EMU. We need a well-functioning Single Supervisory Mechanism with a single rulebook to prevent the emergence of an unsustainable banking sector like in Cyprus. And we must ensure that even if the reinforced supervision fails, we have a Single Resolution Mechanism to provide the instruments for a timely and effective restructuring and resolution of the problem banks.

But these instruments are not yet there, and in this process we had to work with the less sufficient ones that we have today.

The problems of Cyprus built up over many years. At their heart was an oversized banking sector that thrived on attracting foreign deposits with very favourable conditions. These capital inflows also contributed to a property boom and the accumulation of external imbalances.

The depth of banking problems stemmed from the poor practices of risk management. Lacking adequate oversight, the two largest Cypriot banks were allowed to build up by far too concentrated risk exposures. It was the problems in these banks that caused the troubles for the sovereign and the economic decline of Cyprus – not the other way round.

The Commission had alerted Cyprus on its problems early on. Warnings and policy guidance were included in the reports and Country-Specific Recommendations under the first European Semester in May 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. After half a year of talks, a staff-level agreement on the necessary structural reforms and fiscal measures was reached. Many of them, including anti-money laundering measures, were adopted by the Cypriot Parliament before the end of 2012.

The Commission's goal during the whole 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 the eurozone and to protect the integrity of the euro and the single market.

The Commission's preferred scenario was a more gradual adjustment of the Cypriot banking system and real economy, while ensuring debt sustainability. However, there was a very firm financial constraint. The euro area Member States were ready to commit official support up to €10 billion, whereas the total financing needs had been estimated at €17 billion. This constraint severely limited the options available.

As the time was running out, the scenario of the more gradual economic adjustment was not on the cards anymore. The state of banks deteriorated 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 indeed very real. That would have been a disaster to Cyprus and to the Cypriots.

Without a bank resolution law and without a programme in place, banks remained closed and the bank holidays were extended. The Cypriot authorities imposed capital controls to avoid the flight of deposits.

The Commission, as the guardian of the Treaties, is closely monitoring the impact of capital controls in Cyprus. The temporary restrictions were justified in the given circumstances, but they are a very serious limitation to the free movement of capital. Therefore, the Commission will ensure that these measures last no longer than strictly necessary.

The support programme will enable Cyprus to restore the health of the economy and to create a more sustainable economic model. The loans of up to €10 billion are equal to more than half of Cypriot GDP.

I agree with the Minister of Finance of Cyprus, Haris Georgiades, who said yesterday that he wants to shun the blame game and focus on the future. He said as follows: "We are determined to adopt and implement all those reform measures, which we should have adopted a long time ago, but we failed to do so". Indeed, we now have to concentrate all our efforts to facilitate the emergence of new sources of economic activity and to alleviate the social consequences of the economic shock.

The Commission decided on the 27 of March to set up a Support Group for Cyprus with the implementation of the adjustment programme. The Commission is now mobilising its resources to provide technical assistance. The Support Group will rely on expertise from across the Commission services. An immediate priority is to identify the relevant resources available from the current structural funds.

The Commission stands by the Cypriot people in this time of deep trouble. We are committed to help Cyprus to get through the tough times and overcome the current difficulties. I trust that we can count on the support of the European Parliament in together mobilising the available resources for Cyprus, as quickly and as effectively as possible.

Full statement

© European Commission