I admit to being surprised by Cyprus. Oh, not the banking crisis or the sovereign debt crisis or the fact that its banks were eight times larger than the country itself or even the fact that the banks were bloated with Greek debt that had been written down. I wrote about all that a long time ago. What surprised me was that all the above was apparently a surprise to European leaders.
While there is much to not like about what European leaders have done since the onset of their crisis some five years ago, they have demonstrated a prodigious ability to kick, poke, and massage the can down the road, to defuse crisis after crisis, and to indefinitely postpone the inevitable. They have demonstrated a remarkable ability to spend taxpayers’ and others’ money in order to keep Europe and the euro more or less in one piece. At every step they have been keenly intent on maintaining trust in the system. That they have been successful in keeping a majority of citizens in favor of the Eurozone and the euro, even in countries forced to endure serious austerity, must be recognized.
However, the shock in Cyprus reveals an absolute lack of preparedness in dealing with a problem that had festered for several years. By now it should be no surprise to anyone that sovereign nations can default, that banks can go bankrupt under the weight of defaulted sovereign debt, and that banks can be too large for some countries to bail out. That a clear and consistent response to Cyprus should have been worked out in the halls of Brussels and the ECB seems so, well, reasonable. Clearly, the large depositors in Cypriot banks, the majority of whom were Russian (according to Financial Times reports) thought the Eurozone had a plan. In fact, the apparent assumption, bordering on religious faith, that Eurozone leaders would not allow depositors in Cypriot banks to lose one euro, is almost touching. This snafu is going to have repercussions that spread far beyond this tiny island nation. Let’s look at a few of the implications.