Aphrodite woz ‘ere… Laik(i) it or not…

As some readers may have seen, the New York Times recently obtained copies of a report on the collapse of the former Laiki or Cyprus Popular Bank, which at the time of its demise was the second-largest bank in Cyprus, and which almost managed to take down the Cypriot economy with it, in spite of the European Union’s best efforts to avoid a financial and economic implosion.

The report and the, no doubt, selective cache of memos, (many between the Governor of the Central Bank of Cyprus (CBC) and the President of the ECB) amount to a comprehensive indictment of the entire Cypriot political and technocratic elite during the financial crisis; and are an object lesson in why transparency and objectivity are fundamentally important in ensuring sound banking (and, frankly, economic) systems.

Reading through the documents gives an insight into how an almost willful denial of the parlous state of Laiki’s balance sheet and capital account, exacerbated by its exposure to the Greek market and sovereign and coupled with the level of complicity between politicians and CBC staff, enabled funding provided to Laiki by the CBC against supposedly “good” collateral though the Eurosystem’s “Emergency Liquidity Assistance” (ELA) concept to rise to the equivalent of some 60% of Cyprus’ then GDP before the ECB began to enforce some much-needed discipline and seek realistic proposals for resolving the bank. Astonishingly, while supposedly subject to a liquidity ratio of 20% by the CBC at one point a true assessment of the bank’s balance sheet would have produced a negative number! The government and CBC tied themselves in knots allegedly trying to conceal the true gravity of the crisis at the insolvent Laiki not only from the public, but also from the ECB. This allowed almost 4 years to elapse before Spring 2013, when the charade became unsustainable, leading to the now notorious attempts to “haircut” all of Laiki’s (and Bank of Cyprus’) depositors in order to provide “bail in” capital to save the Cypriot banking system and prevent an economic implosion.

The outcome was a period of significant financial and economic instability, during which the changing nature of the mechanisms suggested to re-capitalize the entire banking systems and avoid a “Greek-style” meltdown by Cyprus, only served to demonstrate the need for agreed rules for dealing with idiosyncratic and systemic risks within the EU’s banking systems. Ultimately, the outcome was the EU’s new Bank Resolution and Recovery Directive (BRRD), which is now intended to ensure that the risk of future Laiki-like situations- where, in effect, a government is held hostage by those running its key banks- are minimized, if not wholly banished.

At Awbury, we pay close attention to understanding how the financial systems of the world’s key economies function and the risks they face, not only because it informs our ability to underwrite the complex economic and financial risk management in which we specialize, but also because it enables us to design and structure products which can be used by both banks and governments to manage such risks.

-The Awbury Team


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