The tiny nation's leaders are rushing to prevent a banking collapse. And they've already given the world a lesson in what not to do
Cyprus' leaders are grasping for a new bailout plan to save their country from financial collapse. After Cypriot lawmakers rejected a $13 billion European bailout because it included a controversial tax on savings accounts in Cypriot banks, Russia, where many of the banks' wealthiest depositors live, rejected the Mediterranean island nation's pleas for help. The one-time levy would have raised $7.5 billion that Europe is demanding to help fund the rescue. Now the European Union is threatening to let the country go under if it doesn't come up with a new plan by Monday.
The country's leaders are determined to find a solution. "The coming hours will seal our fate," a government spokesman said. "The country must be saved." Whatever happens, Cyprus might be serving as a cautionary tale that, rather than threatening to hurt the U.S. economy, can teach Americans valuable lessons. Here are three of them:
1. Don't overestimate your bargaining power
"Cyprus will pay dearly for its sins," says Hugo Dixon at The New York Times. This is a country that keeps making the same mistake. "The Cypriots seem congenitally inclined to overestimate their negotiating position." They rejected the United Nations' plan in 2004 for uniting their island, divided in two since a 1974 Turkish invasion. The last Communist government did nothing to shore up Cyprus' finances, thinking itself immune as "the crisis in Greece threatened to swamp Cyprus." Then the new center-right president, Nicos Anastasiades, "managed to turn a crisis into a disaster" by thinking he could go along with the plan to impose an automatic 6.75 percent tax on insured depositors.
When the president found he couldn't sell the deposit grab to his people, he backtracked. There was jubilation in the streets. How quickly the mood has changed now that lines have started forming outside cash machines.
The Cypriot government then asked Russia for help. But again Nicosia overestimated its negotiating position. Moscow wasn’t interested in buying a bankrupt bank or lending more money. [New York Times]2. Never overreact to other people's problems
"Don't let the recent events in Cyprus scare you," says Helaine Olen at Britain's Guardian. "Misleading pundits" are all over our TV screens shouting, "Today: Cyprus. Tomorrow: The world." That's ridiculous. When you hear scare mongering on TV, change the channel.
The fact is the United States is in a very different position from Cyprus and, for that matter, the other European countries thought to be most at risk of being next in the crisis parade: Portugal, Ireland, Italy, Greece, and Spain. Why are we different? The United States government controls its own currency. This is what has allowed the Federal Reserve to engage in round after round of quantitative easing to bring the United States economy back from the brink in 2008.
So there is no way another country could come along and tell us we need to "tax" our account holders. Nor would our government do it either. Why would it? It can just print more of it. Cyprus, when it went over to the euro and gave up control of its currency, lost that right. [Guardian]3. There really is no such thing as a free lunch
"Even if you have zero exposure to the euro, the sad tale of Cyprus teaches investors about important old and new realities," says James Saft at Reuters. The tiny euro nation off the coast of Greece "has been a favored haven for billions of euros from mostly Russian investors," but now it's facing a financial meltdown. Some haven. The lesson here is that "there is still no free lunch," and even if an offshore haven saves you money in taxes, it might wind up costing you dearly in the end. Investments can be high-reward, or low-risk — but they can't be both. Depositors in Cyprus' banks learned that one the hard way. "It would behoove international investors to take note as well."
While deposits in Cyprus banks are insured to up to 100,000 euros, and any policy which violates the spirit of that is an outrage, the truth is that depositors should have known better. And here I am not even talking about an in-depth analysis of a bank's balance sheet, or even spending one's time reading about the euro crisis and its potential knock-on effects.
There was a very easy way that everyone with money in a Cyprus bank could tell they were sitting at the end of a very long limb: The deal was too good. Deposit rates for euro accounts in Cyprus were recently at 4.45 percent, as against just 1.5 percent in banks in Germany. In fact, a depositor who put one euro each in a typical German and Cyprus bank five years ago would have enjoyed nearly twice the cumulative returns, according to central bank data.
Repeat after me: There is no extra reward without extra risk. [Reuters]
Other stories from this section:
- This is the new CNN
- 8 best industries for starting a business in 2013
- Why we can't grow our economy forever
- Politics & Government
- Budget, Tax & Economy