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Cyprus : Time for ECB to Agree a New Plan for Cyprus Karl Whelan, Contributor Forbes Online, Business, 19/6/2013.

After dominating global headlines in March, developments in Cyprus have received little attention of late. The situation there, however, remains extremely serious and still has the potential to destabilize the euro area. Last week, the Cypriot President, Nicos Anastasiades sent a detailed letter to the EU institutions (Commission, Council, ECB) and the IMF detailing a number of problems with the current plan and requesting changes.

Though Anastasiades himself must take some of the blame for the events in March (he should never have agreed to the original plan to hit all deposit holders) his letter contains a number of important points which have been generally over-looked. He is correct that Cyprus was badly affected by the sovereign default in Greece and yet Greek depositors with the Cypriot banks were ring-fenced when the Cypriot banks failed. The Cyprus package badly failed the sniff test for fairness.

More important are his points about Emergency Liquidity Assistance (ELA) and his request to re-work this part of the plan should be agreed to. There is a lot of confusion about ELA, so I ll try to spell out the issues here in detail.

While news articles generally discuss the idea of the ECB lending to banks, in fact the ECB itself doesn t make these loans. Instead, the National Central Banks (NCBs) do all the lending according to criteria set out by the ECB Governing Council. Most of this lending takes the form of repurchase agreements in which a bank temporarily provides assets from an agreed list of eligible collateral in exchange for a loan.

In some cases, however, banks run out of eligible collateral but still request loans. Most central banks in the Eurosystem have long-standing powers to provide what we now call ELA in these circumstances. However, Article 14 of the ECB statute gives the ECB Governing Council the power to intervene and prevent any program that it believes interferes with its monetary policy. For this reason, the existence of ELA programs in the Eurosystem as well as their terms and conditions are ultimately decided by the ECB Governing Council.

Problems with Cyprus s banks had been rumbling for a long time before they came to the world s attention in March this year. Having invested heavily in Greek sovereign bonds, the Cypriot banks were always going to be in trouble after the Greek debt restructuring. However, the Cypriot government and the international policy agencies failed to address the situation quickly, instead engaging in long and slow negotiations over the conditions for international assistance to Cyprus.

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Publication:Mena Report
Geographic Code:4EXCY
Date:Jun 21, 2013
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