International Banking Units based in Cyprus (previously known as “offshore banks”) are rushing to buy Cyprus pounds in order to comply with a Central Bank of Cyprus directive ordering them to hold 2% of all their deposits as Minimum Reserve with the Central Bank from January 1, 2006.
According to Financial Mirror calculations, the IBUs will need to buy up to CYP 42-45 mln during December in order to meet the January 1 deadline, thus putting upward pressure on the already strong Cyprus pound. Based on the most recent data released by the Central Bank, the IBUs had total customer deposits of USD 4.26 bln at end of September.
A Central Bank spokesman told the Financial Mirror that since there is no distinction between a local bank and an IBU, it was decided that IBUs should meet the same obligations as local banks, which already place a percentage of their deposits with the Central Bank as Minimum Reserve.
The same spokesman said that irrespective of the currency in which the IBU has accepted customer deposits, they will need to keep 2% of that in Cyprus pounds, placed on one month deposit, at Lombard, currently 4.25%, less 1%.
A proposal to use the rate derived from the auction of 14-day Acceptance Deposits has been shelved, at least temporarily, and the Lombard will be used as the base.
The Central Bank has also decided to allow the IBUs to enter into swap arrangements with it, selling foreign currency and buying CYP to place as deposit with an offsetting transaction on a forward date at market rates to facilitate the transition.
The decision to ask for CYP is in tandem with an ECB requirement calling on all banks to hold as Minimum Reserve 2% of their deposits at the repo rate in euros, which is currently 2.25%.
“When Cyprus adopts the euro, then all the funds will be placed in euros,” said the Central Bank spokesman, defending the decision to ask the banks to place the funds in local currency.
Lower reserve for locals
As for the local banks, which until recently had to keep 6.5% of their CYP deposits and 2% of their foreign currency deposits as a Minimum Reserve, the ratio is being lowered steadily and from Jan 1, the minimum on CYP deposits will decline to 5% while for foreign currency deposits will remain at 2%.
The minimum requirement will gradually decline, in April 2006 seen at 4.5% and eventually to 2% by January 2007 as Cyprus enters the last stage of harmonisation with the euro-zone.
The reduction in the minimum reserve requirement for CYP deposits will obviously free up more funds for the banks to lend, but in view of the high liquidity experienced by the banks in local currency, the influx of more funds will only help drive rates lower.
