The Bailout Of Russian “Black Money” In Cyprus

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Timing couldn’t have been worse. Or more opportune. A “secret” report by the German version of the CIA, the Bundesnachrichtendienst (BND), bubbled to the surface, asserting that the pending bailout of Cyprus would use the money of taxpayers in other countries, particularly in Germany, to bail out mostly rich Russians who have over the years deposited their “black money” in Cypriot banks that are now collapsing.

Not that the bailout of this tiny speck of land with 840,000 people isn’t in enough trouble. Admitted into the Eurozone in 2008, Cyprus veered towards bankruptcy in 2011 but was temporarily bailed out last November by a €2.5 billion loan from Russia. That money didn’t last long. In June, it asked the Troika, the austerity gang from the EU, the ECB, and the IMF, for a full-fledged bailout. So Troika inspectors have been combing through the financial rubble to determine a bailout amount and needed structural reforms.

On Thursday, Finance Minister Vassos Shiarly was still optimistic. He hoped that negotiations with the Troika would conclude before the November 12 meeting of Eurozone finance ministers. On Friday, he admitted that a number of issues were still unresolved, including privatization of state-owned enterprises and elimination of Cost of Living Adjustments for wages, both of which have hit a wall of resistance. But then, a Troika report that Reuters “obtained in Berlin” considered Cyprus’ latest proposal for structural reforms “insufficient” and urged the government “to cooperate with the Troika.”

Shocked and appalled, government spokesman Stefanos Stefanou added to the confusion over the weekend by quibbling with the word “insufficient” and by denying that the government knew anything about that report. Alas, just then, the revelation that a bailout would mostly benefit rich Russians who had their “black money” stashed away in Cyprus’ failed banks slapped Germany’s taxpayers, who’d have to foot a large part of the bill, in the face.

The BND report concluded that this “black money” amounted to €26 billion—about 150% of the country’s GDP. Money that the banks had plowed into Greek sovereign bonds and the housing bubble that came with a nationwide title-deed scandal of phenomenal proportions. And now the banks need at least €10 billion to stay afloat.

The BND report also lambastes Cyprus for creating a fertile ground for money laundering. While some laws have been passed and some institutions have been created to combat money laundering, they’re apparently just decoration; rules are simply not enforced. Money laundering is further facilitated by the ease with which rich Russians can obtain Cypriot nationality—and thus freedom to establish themselves financially anywhere in the EU, which according to the BND, 80 Russian oligarchs have already done.

There are over 40,000 mailbox companies in Cyprus. Many have large subsidiaries in Russia, and profits are siphoned off in Cyprus. To accede to the EU in 2004, Cyprus had to clean up its act a bit. But only on the surface. Finance activities strengthened, particularly when Cyprus became part of the Eurozone: at the peak, according to the BND report, financial services and banks accounted for up to 70% of the country’s economy. So much so that Cyprus, in turn, has become the largest foreign investor in Russia.

Taxpayers in other countries, including those in the US—via the US contribution to the IMF—will be asked to step up to the plate to bail out that system. Even tiny Cyprus cannot be allowed to default and exit the Eurozone, and even “black money” investors from Russia must be bailed out. Otherwise, Cyprus would be the first domino to topple, as the cliché goes, or the second, if Greece were allowed to go first, with mega-consequences that would ultimately take down the entire universe.

That logic has been proffered as rationalization for all bailouts. There is never an alternative! But as these bailouts have shown, including those of Wall Street by the Fed and the Treasury, they not only prop up but propagate deeply corrupt systems.

For rich Russians, Cyprus, with its 10% corporate income tax, is not only a tax haven; as an EU member, it’s a safe haven from their own government, something they have learned to appreciate. Cyprus tried to play Russia, and its double-edged anxiety, against the Troika in order to negotiate better bailout terms. But now Russia is letting Cyprus twist in the wind, as banks are in worse condition than imagined, and as bailout amounts jumped once again.

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  4 comments for “The Bailout Of Russian “Black Money” In Cyprus

  1. Rik
    November 5, 2012 at 7:56 am

    This is an isue with potentially huge political implications.

    -The EZ rescue has apparently moved from systemic to all. Partly saving Euro face (what do they think they are Asians), partly simply a hugh level of incompetence. Monti and Draghi still might oversee the whole picture the rest starting with Lagarde and Merkel simply doesnot.
    -The systemic discussion is likley to come up. In 2 ways simply why are we rescuing countries and banks (and bailing out at taxpayer expense) becuase they are TBTF or for other reasons. Anyway Cyprus is clearly not TBTF. Plus and as important that it looks complete unrealistic that countries like Greece can get away with everything and increase the total bill consederably and Italy and Spain especially not using the same tactics. If these 2 would do a Greece the North can never carry that load. The North being Germany and a few smallies, France is simply a neutral not yet a burden but so close that it can also not be seen as a financial help (by anybody else than Hollande).
    It simply has failure written over it. All roads lead to Rome (and there you will fall from the cliff).
    -This will use a lot of the political capital still left in the North. Bailing out banks is already as close to a no go as possible, bailing out banks abroad considerably worse. But bailing out dodgy banks for dodgy Russian oligarchs is a political capital offence (or could be that).

    Imho the outcome of it will depend on how the play goes.
    -If this attracks a lot of media attention in the North you simply will see a problem developing. Media might be rather Euro- and EU-positve but media are also mainly not controlled and not very competent (mainly totally uncompetent) with a few exceptions. Unlikley it will get positive in the news so the only remaining question is how much will it be in the news. If much there is simply a huge problem.
    -Relation public opinion and national politics. Depend simply on things like: if a government is popular, are all coalition partners on one line, when is the next election, how competent is the leadership, how strong is the leadership seen by voters, alternatives for present leadership, polls. With of course for the Euro the extra problem that they need 17 (to 20 EU/EZ institutions) approvals.
    -We have seen a lot of hogwash and show for the homeaudience in the political arena imho. Say the SPD could by now easily have politically killed Schauble (he simply has been lying in parliament), but while pinning him to that was extremely simple they didnot do that (and 2 or 3 times). So there is likley more than the eye can see. But nevertheless political capital in Germany is running out simple as that. In Holland the PM has terribly messed up things and is now just short after the elction dropped like a brick by his voters and half of his party memebers. Which makes that government now while not even installed highly unstable from the start (possible new elections) and Rutte not able to go for another election (as he would be tanked), but possible still has to (if his party drops him and the government). Nutshell unstable big time. Finland has it True Finns etc.

    Anyway this is likely to be played out in different stages. Greece first, Cyprus next, followed by Spain (and likley Italy) and possble ESM increase/leverage, official sector haircut, Portugal 2.0, new Greek elections and only to start stabilising things. Simply looks to me not all things will go well (too many things with a substantial probablility of a no go) not all killing the whole thing but possible. Simply donot see all go Euro positive.

  2. Wolf Richter
    November 5, 2012 at 2:02 pm

    Rik – thanks for your excellent, thoughtful comment. I've also wondered why the SPD doesn't go after the lies of the government with regards to issues related to the debt crisis. Only explanation I have: the SPD is even more pro-bailout.

  3. Rik
    November 6, 2012 at 9:29 am

    Wolf
    SPD is in a strange position. Imho it is basically that they still think people vote for them because the like solidarity in general (mitigated socialists priciples). What I mean with that is that people feel solidarity is the way to go irrespective of their own position. And towards all that might need it not when it is convenient for you personally (3rd world, Southern Europe, Eastern Germany, poor, refugees, immigrants, disabled, unemployed, aged etc).
    It simply is not the case if you look at polls. People are simply mainly pro solidarity because they benefit from it. Not necessarily directly financially but also especially for the richer part that they think/feel they might lose their priviliged position in the society.
    The SPD is still partly a socialist party (moved like all European socialist parties to the middle), but still for a substantial part uses the solidarity concept as a guideline. It might be less than before but there is still a lot of prior socialist DNA in them.

    German position towards Europe is also weird and tainted by the war. However that is the official position the population hardly feels it that way 90 % or so are born after the war and have the mix of it being somewhere in their subconscience and simply being totally fed up with up as they were not even alive when it happened.
    The traditional parties also still have that pro-Europe gene in their DNA (to use again your wording for it).
    SPD as a real traditional political party plus that solidarity gene that is still present is by nature even more pro bail out that the average politician.

    This gives the strange mix that politicians are overwelmingly pro Euro bail out, but the population is overwhelmingly against. And the real opposition in Germany the SPD effectively more than the government that tries to sell it to the population. As you indicate.

    The SPD is also a traditional party in the sense that they still react mainly different from the US that they stick more to their basic principles and donot change them easily when polls point into another direction. Merkel is more handy in that, and looks several times more opportunistic than the SPD in this respect. She doesnot see opposition on the right and simply moves to the centre and those kind of things.

    The SPD made a huge strategic mistake with the Euro rescue. Basically they simply supported Merkel. But while it was clear that if you go for winning an election they should have moved to more rescue sceptic than Merkel. As there are 2 likely outcomes. Ends badly or it costs an awful lot of money and neither is popular, they should have played that card. Good to be able to blaim somebody else for that.
    They didnot.
    They are even more pro rescue than Merkel (very difficult to sell). First in the plain vanilla variety and after they saw that it was an electoral huge miss the brought in the democracy element (Merkel is hardly very democratic in this respect as you noticed). Not realising that the average voter is simply mainly interested in not having to face cuts himself (and much less in how it is formally done). The German (wo-) man in the street would probably be happy when the Constitutional Court for some bogus reasons would pull the plug.
    The SPD completely missed this one. And so short for the election it seems impossible to reverse. So I donot see them getting the biggest party and winning from Merkel next election.
    Basically they are still more pro solidarity socialists and more principle oriented than a representative of their voters.

    Expect the SPD simply going on like this. Their leader also doesnot look like a guy that can become a slick politician overnight (incapable to do it and would not look credible/natural).

    The problem in Germany there is not yet a real opposition (all main parties are very similar on Europe). Caused by the 5% requirement in elections, and their own natural conservatism. The 2 strange ones Linke (East block style communist) and the Pirates simply donnot appeal to 'normal' voters.
    However the mainstream parties are different in their rethoric. Also from a 'marketing' point of view in the worst way possible. Starting with shouting we are against and in the end simply voting ya. No other populist parties on the horizon as I can see it.
    However the rhetoric might do some of the job close to the election.

    If Merkel would go for a bail out a few months before the election it could finish her, so she will try to avoid it. Protests in voting might ruin her position.

    What can go wrong rescue wise. Not it falling apart as it is clearly unsustainable but before that.
    -rise of a populist party (basically what Europe shows you need one guy or girl to get a substantial part of the vote (but see nobody at the moment);
    -CSU or FDP rebrand themselves. CSU very unlikely. FDP likely they have to do something otherwise it is 'sluss'.
    -Rescue approval needed short before the election (doubtful if Merkel want to take the electoral risk). Likely, there is an essential approval roughly every 3-6 months, timing difficult to influence by politicians.
    -Rescue after the pro-vote being unconstitutional. The topic being relevant if the other EZs can not easily adjust (like the ESM) this might force a referendum in Germany and would mean on game over. Merkel makes a lot of legal mistakes so likley as well.
    -Most likely imho is when official debts have to be written off. Greece 3.0 will probably buy them 6-9 months and then it collapses again. A subsequent write off would mean that things get budgettary and would require cuts on other issues and that will start likley a revolt. And a lot of the financing is done directly via the EZ countries so very difficult to hide it is the ESM or something like that
    -combination with changes in policies in other countries. Anti-austerity but also anti bail out (in say Finland or Holland).
    These are the things to watch on the political front in Germany imho (plus of course the around new year GCC case and likley some more to follow).

    Not telling the truth is a huge sinn in politics and one of the basics of the political profession. Schauble was clearly lying, but even if he was maybe lying the standard reaction of a normal oppositionleader would be get a yes or a no in the iofficial notes. After the fact go digging and finish him off. It simply didnot even come close. The SPDs reaction is either completely stupid or stinks. My money is on stinking, looks simply much more likely. Concerns the basics of the parliamentarian game on one of the most impostant issues if not the most important issue and by experienced politicians. Difficult to see that it is something else than stinking.
    Could not be backroom. Simply could have been not willing to be seen in anyway (also for other reasons) to be the one that pulled the plug. Or a mix of both.

  4. November 6, 2012 at 5:55 pm

    Wolf and Rik, thanks for your great analysis and comments.

    Also, as an aside, Rik's pattern of speech reminds me of Heinlein's protagonists in "The Moon Is A Harsh Mistress," both Mannie and Mike. Jesus, what a great book. Fitting, too, that Rik's analysis of the EU morass comes across as hi-fi dinkum thinkum. Folks fighting for Luna and EU tax-payers sure do look and *sound* alike. …TANSTAAFL!!!

    Peace to all.

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