Cyprus Government Report Points Fingers on Bank Collapse

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President Nicos Anastasiades of Cyprus at a summit this month in Cairo.Credit Amr Abdallah Dalsh/Reuters

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How can a midsize bank torpedo an entire economy?

It was the first question asked by the new president of Cyprus, Nicos Anastasiades, on March 1, 2013,  when he assumed power and was immediately confronted with the implosion of Cyprus Popular Bank and the rescue package that followed just two weeks later.

To that end, Mr. Anastasiades has since commissioned a 40-page study that examines in detail how the collapse of the second-largest bank in the country could have such a devastating effect on the Cyprus economy.

The report draws on many thousands of pages of official documents and blames the previous government and the two governors of the central bank — Athanasios Orphanides and Panicos Demetriades — for masking the bank’s problems  to secure 10 billion euros of emergency loans from the European Central Bank.

Titled “How a Bank’s Mismanagement Toppled an Economy,” the report pulls few punches:

“The Cyprus Popular Bank was insolvent before the haircut of the Greek bonds. After the haircut, the bank had little chance to survive,” the report concludes.

The paper’s authors say that the previous government used the bank’s troubles as an excuse to nationalize the bank and they claim that Mr. Orphanides and Mr. Demetriades ignored mounting evidence that the bank was bust in order to secure approval of 10 billion euros in emergency loans from the European Central Bank.

In politically charged Cyprus, some might see the paper as after-the-fact score-settling. It is also true that relations between the current government and the country’s central bank have been tense since the early days of the crisis in March 2013 and remain so today.

Moreover, legal authorities in Cyprus, as part of a broad investigation into the crisis, are looking to focus their efforts on what the central bank of Cyprus did during this period, according to people who have been briefed on the investigation.

Still, despite its blunt conclusions, the report, relying as it does on an extensive paper trail, does shed new light on the actions taken by the principal players during the crisis.

Both Mr. Demetriades and Mr. Orphanides rejected the paper’s central claim: that Cyprus Popular Bank, or Laiki as it later came to be known, was not solvent during their terms in office.

“Laiki was dynamically solvent since there was a credible plan to recapitalize it,” Mr. Demetriades said in a statement.

Mr. Orphanides, in his own statement said: “If there was clear evidence that Popular bank was insolvent or that it did not have adequate collateral then E.L.A. should have been stopped. While I was at the central bank, the bank was solvent and posted adequate collateral, the rules were properly followed.”

The report makes the following claims:

That the then president of Cyprus, Demetris Christofias, did not object to the sizable haircut on Greek bonds at meetings in late 2011 with his eurozone peers because the losses suffered by Popular Bank would give him an opportunity to nationalize the bank.

“I may even buy it, nationalize it.The problem is to find the money,” Mr. Christofias said, according to documents. “We will appeal to the European Central Bank to get a loan.”

Documents show that when Cyprus Popular Bank first applied to the central bank for emergency help in the fall of 2011, depositors were pulling money out of the bank in large sums and it had a liquidity ratio — cash like assets divided by short-term debts — of below 4 percent, compared with a minimum threshold of 20 percent.

But the report shows that in his report to his colleagues on the governing council of the E.C.B., Mr. Orphanides said, “On the assessment of the banking supervision department of the central bank of Cyprus, Marfin Popular Bank was solvent.”

“When Orphanides was assuring the E.C.B. that Popular bank was solvent, the bank was bankrupt,” the report claims.

The report also discloses that the bank was in such bad shape that its auditor, PricewaterhouseCoopers, refused to sign off on the bank’s 2011 results unless it received a letter of guarantee from the government.

In a letter to the Cyprus central bank, a PricewaterhouseCoopers executive said, “We want to inform you that there is substantial uncertainty which may create substantial doubt as to the principle of going concern (for the bank).”

The accounting firm also wrote to the Cyprus finance ministry, saying government backing was needed to “address liquidity and solvency issues as well as capital requirements for the bank and for the bank to be able to continue as a going concern.”

The government would provide the letter, and a few weeks later Mr. Orphanides presented a recovery plan for the sickly bank to his E.C.B. colleagues.

Documents show Mr. Orphanides promoting the bank’s “substantial franchise value,” and he predicted that there would be economic recoveries in Cyprus and Greece and that Cyprus Popular Bank would rack up 1.6 billion euros in profits from 2013 to 2016.

The authors of the study wrote: “A bank which depended on E.L.A. for the ninth consecutive month, with a core Tier 1 close to zero, with inability to recapitalize, mainly engaged in business in Greece which was mired in an economic crisis, estimated that in three years — from 2013 — it would realize a net profit €1.6 billion. Profits of this range were never recorded by the bank not even when it was at its peak, during the time of the great “bubble,” that is before 2010.”

The study is no less tough on Mr. Demetriades, who, along with the former government, is accused of agreeing to a draft law allowing for depositor haircuts — that would come in March 2013 — and not briefing the new government about it.

In a statement, Mr. Demetriades said: “The C.B.C, was informed of Eurogroup’s plans to involve depositors in March 2013.” He said that the report’s claim “that the bail-in was agreed earlier by the previous government and myself is not only unfounded but also ludicrous.”

In July 2012, the report shows, a senior representative at the central bank informed his bosses that the bank was in a state of “non-viability.”

Still, the government and the central bank worked overtime to keep the loans flowing and the report shows in detail how Mr. Demetriades advanced and defended a plan to increase the value of Cyprus Popular Bank’s collateral so that it could secure more loans — all the while keeping the central bank president, Mario Draghi, informed

Mr. Demetriades has said that the central bank’s collateral valuation techniques were “sufficiently conservative.”

“Cyprus Popular Bank was not hooked up on a ventilator on the eve of the elections, but for a period of at least two years,” the report concludes. “The artificial prolongation of its viability caused the taxpayer 1.8 billion euros as direct damage,” not to mention, the authors point out, untold “collateral damage.”

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