BRUSSELS, March 21 The European Union has given
Cyprus until the close of business on Monday to come up with a
plan to raise nearly 6 billion euros and secure an international
Without it, the European Central Bank has said it will cut
off emergency liquidity assistance (ELA) to the island's main
That could prompt the collapse of the economy, which relies
on banking, finance and tourism. Banks have been closed and will
not open again until Tuesday, by which time a plan needs to be
Following is a look at what may happen in the days ahead.
BANKS REOPEN AFTER BAILOUT DEAL
If the government does not extend the bank holidays,
Cyprus's main retail banks - Bank of Cyprus, Cyprus Popular
Bank, Hellenic Bank and USB Bank - will open for business on
If a deal has been reached with the European Union and IMF,
the chances are disaster can be avoided.
There is likely to be heavy withdrawal of funds,
particularly from international depositors, but the ECB would be
able to go on providing ELA, a backstop that will keep the banks
standing. If markets react positively to that and a sense of
calm returns, funds could even eventually flow back.
That is a best-case scenario and even then, restructuring of
the banks would still be required.
BANKS REOPEN WITH NO BAILOUT AGREEMENT
If an acceptable deal has not been reached with the EU and
IMF by late Monday and the bank holiday is not extended, a
grimmer outcome is likely.
Banks may open their doors but may just as quickly have to
close them in the face of a stampede to withdraw funds,
particularly at branches of Cyprus Popular Bank and the Bank of
Cyprus, the two largest and worst affected of the island's
The banks could stay shut for longer but with Cypriots
already confined to taking money out of ATMS the chances of
social unrest willl grow if they do not reopen soon.
Either option is academic. Without ECB support, the banks
would not be viable and would collapse.
If it becomes clear between now and Monday that no agreement
is going to be possible with the EU and IMF, then it is probable
that the Cypriot parliament will approve legislation imposing
capital controls on financial institutions.
A law has been submitted to parliament.
That might go some way to limiting the immediate outflow of
deposits, which before the crisis stood at around 70 billion
But it wouldn't do anything to bolster the solvency of the
banks, particularly the two worst-affected institutions.
GOOD BANK/BAD BANK
A senior EU official said on Thursday it may be necessary to
force the creation of a "good" bank and a "bad" bank.
In a best-case scenario, the good bank would be left holding
all performing loans and insured deposits, that is accounts with
less than 100,000 euros in them. The bad bank would house all
non-performing loans and accounts with more than 100,000 euros
in them - those not protected by a deposit guarantee.
The EU official said deposits in the bad bank would have to
be "haircut" by 30-40 percent - far more than under the bank
levy proposed by the euro zone as part of a bailout.
Even deposits up to 100,000 euros, in theory guaranteed by
the Cypriot government, could not be paid out in full, because
the island has no funds to back up its deposit guarantee.
And even if a rescue plan is agreed and the ECB goes on
providing emergency assistance, a bank may have to shut down
given the lack of trust in the sector.
Cyprus's central bank said on Thursday its second largest
lender, Cyprus Popular Bank, would be restructured to avoid
The collapse of the banking system would leave the economy
paralysed and in chaos over the short-term.
Further out, the best route to recovery would require a
significantly devalued currency. The only way to engineer that
would be to leave the single currency, which Cyprus joined in
"If the financial sector collapses, then they simply have to
face a very significant devaluation and faced with that
situation, they would have no other way but to start having
their own currency," the euro zone official told Reuters.
Some euro zone policymakers have said, however, that it
would be preferable to deal with a bankrupt country within the
euro zone, not outside it.
So the prospects for Cyprus without a bailout are bleak but
why does the euro zone seem prepared to let it go? With Greece,
the fear of a domino effect was so acute that it was drawn back
from the brink.
Greece may be a small part of the currency bloc - about two
percent of its GDP - but Cyprus is 10 times smaller.
Policymakers believe they can make the case that with a banking
system eight times larger than the size of the economy and awash
with foreign money, it is a one-off case that would never be
If people got edgy about banks elsewhere in the euro zone,
the ECB could flood the system with liquidity until confidence
was restored. As such, policymakers believe the threat of
contagion is limited.