The 2013 crisis was caused by banks, no matter what Disy says

In the run-up to the parliamentary election on May 24, candidates have clashed on the ability of their political parties to manage the economy. In particular, in reaction to the policy proposals of Akel to improve the performance of the economy for the benefit of the people, candidates of “more right-wing” parties, including Disy, have stated repeatedly that Akel could not be trusted in handling the economy, and referred back to the Demetris Christofias government as causing the financial crisis of 2013.

Role of Cyprus banks

The view propagated continuously by Disy and other political parties, that the policies of the Christofias government were mainly responsible for causing the financial crisis of 2013, is far from the truth.

Indeed, independent institutions such as the IMF state it was the activities and operations of Cyprus banks that were the main cause of the financial crisis. In fact, the IMF labels the crisis as a “banking crisis”.

In their report on Cyprus’ request for financial assistance in 2013 the IMF staff state that as “background” to the crisis “Cyprus built significant internal and external imbalances in the run up to the global crisis. These were exacerbated by an oversized and weak banking sector (with assets of over 800 per cent of GDP) heavily exposed to Greece, which posed large contingent liabilities onto the sovereign.

“The Greek debt restructuring, together with realised and prospective loan losses in both Cyprus and Greece, resulted in an assessment that the two largest banks were insolvent, triggering a loss of confidence and culminating in a banking crisis”.

More specifically, the increasing imbalances in the Cyprus economy in the years prior to the financial crisis referred to in the IMF report, were to a large extent attributable to the operations of Cyprus banks.

In the years up to 2010 Cyprus banks were flooded with large inflows of deposits, especially from non-residents, on which interest rates of up to 6 per cent per annum were offered. But, banks could not absorb this great abundance of funds in financing economically viable investments.

Indeed, banks increasingly wasted their vast excess reserves in financing speculative real estate ventures and household loans that were secured by property, the prices of which were falling rapidly.

As a result, the ratio of estimated non-performing loans of banks to total gross loans increased steeply from under 10 per cent in 2009 to over 45 per cent by 2013.

In addition, Cyprus banks suffered over €4 billion in losses, exceeding 22 per cent of GDP, owing to their very large exposure to Greek government bonds, as a result of the Greek debt restructuring in 2012.

And as a consequence of the deteriorating quality of bank assets and resultant losses, investors and depositors lost confidence in Cyprus banks, triggering a huge outflow of funds that was reflected spectacularly in a fall in their deposits of over €50 billion between 2009 and 2013, that in turn completely drained the liquidity of banks.

Furthermore, the large external imbalances of Cyprus prior to the crisis were most strikingly revealed in a current account deficit that averaged around a whopping 10 per cent of GDP in the six years before the crisis.

In truth, the massive inflow of non-resident bank deposits contributed profoundly to the financing of the large current account deficits up to 2009, while the marked outflow of such deposits thereafter resulted in serious financing difficulties for the external accounts.

Hence, in this sense, the volatility in the flows of non-resident deposits were very important in causing problems that brought about the financial crisis.

Thus, with the massive losses of Cyprus banks resulting from their reckless lending and questionable investments in Greek government bonds, the Cyprus authorities had to request financial assistance from the IMF and the EU.  And in response these institutions provided €10 billion in a bailout and forced Cyprus into a “bail-in” of uninsured depositors.

However, there is the issue of what authorities had oversight or influence on the decisions and actions of the banks in the period leading up to the financial crisis? Was it the Cyprus government led by Christofias or the officials of the ECB and the Central Bank of Cyprus?

After Cyprus adopted the euro as its currency at the beginning of 2008, the stewardship, oversight and regulation and supervision of Cyprus banks was primarily vested in the Central Bank of Cyprus (CBC), which acted in cooperation with the European Central Bank.

Undeniably, in the years before the crisis the CBC should have performed much better in scrutinising and monitoring the extent, composition and quality of the lending of banks. Also, it is questionable whether the CBC should have approved the large investments of the Bank of Cyprus and Laiki Bank in Greek government bonds as well deciding to lower reserve requirements against non-resident deposits to the same level as those on resident deposits.  

Role of government

While the government of Christofias had little influence on the banks in contributing to their financial collapse, its fiscal policies were instrumental in depleting government finances and in not having the funds to support the financial positions of banks with capital injections.

During the period from 2008 to 2012 the government recorded annual overall deficits averaging just over 6 per cent of GDP, with the ratio of public debt to GDP increasing from 47.1 per cent in 2008 to 84.4 per cent in 2012, that compared with private debt as a proportion of GDP climbing steeply to over 300 per cent by 2012.

Due to the deterioration in the public finances the government was cut-off from borrowing in capital markets in May 2011.

Thus, when the financial crisis came to a head in early 2013 owing mainly to the reckless lending and investments of banks, the government did not have the funds to contribute to rescuing the banks from their dire financial positions.

Management of economy

Candidates of Akel with their socially-oriented policy proposals claim that the economy can be managed better than what has taken place under the rule of the governments of Nicos Anastasiades and Nikos Christodoulides, especially in providing support to meet the financial and housing needs of ordinary citizens.

Although GDP and employment have increased at relatively rapid rates in recent years, economic growth has been accompanied by rising income and wealth inequalities, that in particular has driven many people into the risk of poverty and put young people in positions where they are unable increasingly to afford decent housing.

In fact, it has been argued in previous opinion pieces that the government has not used its abundant financial resources (reserves or bank deposits of €6.1 billion at end-March 2026) enough and efficiently in financing productive investments in essential infrastructure to ensure adequate, reliable and affordable energy and water supplies for all households and businesses, including farmers.

In addition, the government should be using its plentiful funds to sustainably raise income support for vulnerable persons including, among others, single mothers and lowly-paid elderly pensioners.

Also, the surpluses of the Social Security Fund, which are really the capital of contributing employers and employees, should be used for social purposes, such as constructing affordable housing rather than being borrowed by the central government to partly finance its excessive current expenditures.

Moreover, as Akel, virtually alone, constantly presses the Cyprus authorities with proposed measures to deal with adverse effects on Cyprus of the current conflicts in the Middle East, it is a reminder that the government does not respond well in supporting those households and businesses hardest hit by external shocks.

Indeed, in the face of the present upsurge in energy, fertiliser, and other prices, are the Cyprus government and banks giving serious consideration to providing adequate financial support to lowly-paid employees, pensioners and farmers, as well as to businesses, apart from large hotels, exposed to the hospitality sector?

In concluding, it is hoped that the government supported by a new House of  Representatives will be able to manage the economy better and more equitably and induce and pressure (possibly with extraordinary taxes) banks to be more productive and socially-oriented in their policies so as to benefit susustainably the economy and people of Cyprus.