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Dr. Theodore Panayotou
Cyprus International Institute of Management (CIIM)
If Prometheus was still around he would have advised us to urgently, but voluntarily, join the European Financial Stability Facility (EFSF).
We, Cypriots, may be good at many things but one thing we are not particularly good at is in anticipating events, scenario building and assessing and managing risk. Even when we see the writing on the wall we prefer to bury our heads in the sand and pretend it is not there.
We knew all along that our banks were getting far too big either to save them or let them fail, were they to get into trouble; we nevertheless allowed them to become 7-8 times our Gross Domestic Product. We knew all along that our banks were heavily invested in Greece beyond prudence but we cheered them along.
Not even when the economic situation in Greece was deteriorating by the day did we stop to question the wisdom of our sacred banks continuing to buy virtually worthless Greek bonds and giving loans to borrowers about to default. Their successive downgrading by the rating agencies raised more questions about the agencies than our banks. The deep haircut of the Greek debt that rendered our banks heavily undercapitalised found us in the middle of bragging about our banks having passed their stress tests with flying colours.
Even when our banks couldn’t raise the funds to recapitalise themselves we deluded ourselves that Russia, China, private mega-investors and other dei ex machina were lining up to give us billions without even asking how we got into this mess in the first place. Our feathers were not ruffled even by the results of the Greek elections and the prospect of Greece exiting the euro, defaulting on its debts, and rendering our bank’s private loans of 22 bln euros unserviceable, requiring another 5-7 bln for a second recapitalisation.
It was in the midst of such denial that Laiki Bank “cried uncle” and begged for help from the state which is itself broke. The state rightly, given the circumstances, lent a helping hand but nobody harbours any illusion that the bill will end up in the hands of the taxpayers many of whom are its customers. But even if the bank, with the state guarantee, manages to raise the funds to recapitalise itself and even if no other bank needs state help, more risks are looming on the horizon, from further haircuts of Greek public debt to the billions of non-performing private debt, from continuing Greek instability to Greece exiting the Euro.
Shouldn’t we be Prometheus and not Epimetheus for a change? Shouldn’t we anticipate these risks and prepare for them? Shouldn’t we build scenarios about the future and prepare strategic responses for all eventualities? Shouldn’t we anticipate events and pre-empt them or at least take early action to mitigate their effects? Why should we always be behind the curve running after the event to catch up with knee-jerk responses?
It is quite clear that it is possible and even likely that our banking system would need more support in the very near future, support we cannot provide as taxpayers nor as depositors and investors. What are our options? As members of the Eurozone we should seek help from our partners and the mechanisms of the club to which we belong and we should do this as an act of prudence not as an act of desperation.
The European Financial Stability Facility (EFSF) was created two years ago, in May 2010, for exactly situations like this, “to provide loans to countries in financial difficulties and to finance recapitalizations of financial institutions through loans to governments to provide support to financial institutions via their respective states to ensure financial stability”. We may not need the funds right away but since we are likely to need it very soon we should voluntarily apply to ESFS for funds to the order of 5-7 bln euros in the form of a standing facility which we will use only if and to the extent needed. It is in the very mission of the EFSF to “act on the basis of a precautionary programme”.
Why haven’t we done it already? First of all, it is not in our DNA and our culture to act proactively. Secondly, we have demonised the EU support mechanisms in light of Greece’s painful experience without bothering to distinguish between the emergency support of a bankrupt state through the “Mnemonium” under the management of the Troika and the precautionary resort of a solvent state to an entirely different mechanism, the EFSF, whose mission is to prop up troubled financial institutions and secure financial stability. True, the request for support must be done by the state, not directly by the banks (although the creation of such a facility is under discussion); therefore, if we end up using the funds, our national debt will increase but it not beyond the EU average.
A third and perhaps the most inhibiting reason is our fear that our EU partners are waiting for us to ask for help in order to impose on us what they always wanted: a steep increase of our corporate tax rate. Since our low corporate tax rate has been our only remaining competitive advantage in recent years we are scared that our resort to EFSF will mark the drying up of foreign investment, the departure of foreign companies from Cyprus and the demise of our ailing economy.
This fear is both misplaced and exaggerated. First, when you enter a support mechanism voluntarily as a precaution you have more room to negotiate the terms and to draw red lines; our low corporate tax could and should be one. Second, it is contrary to the mission of the EFSF to destabilise a member state’s economy by imposing burdensome terms in its effort to stabilise its financial system. Third, by joining the EFSF voluntarily and preemptively we reduce the threat to our low corporate tax, especially if we go well before the state itself needs financial support, with a well thought out plan of how to keep our commitment to reducing our budget deficit to 2.5% of GNP. What we need more than anything else now is to regain people’s trust in our banking system, and our EU partners’ trust in our state and its macroeconomic management.
However, all scenarios should be studied and alternative responses lined up. What if the EFSF’s terms turn out to be too burdensome to accept. What are our options? One possibility is to mortgage part of the future revenues from the exploitation of our newly found gas deposits for loans from countries like China and Russia. This would be far more preferable than losing the competitive advantage of the low corporate tax. Moreover, having options strengthens our negotiating position with the EFSF. At last, we should recognise that we live in an uncertain world full of risks and we should begin anticipating events, building scenarios and strategic responses, assessing and managing risks.
Dr. Theodore Panayotou, is Director of CIIM and Professor of Economics and the Environment at Harvard University, served as consultant to the UN and to governments in the U.S., China, Russia, Brazil, Mexico and Cyprus. He has published and was recognized for his contribution to the Intergovernmental Committee on Climate Change that won the Nobel Peace Prize in 2007.
