Cyprus Bailout: Understanding this Euro Zone Crisis, in a Nutshell


Cyprus' financial crisis has been resolved as European Union officials announced a bailout deal to the tune of 10 billion euros. The island nation's substantial banking sector threatened further woes to the euro zone, which has struggled lately. Important to the deal reached, the agreement avoids a tax placed on all deposits which Cypriot legislators had earlier proposed as a way to finance part of the bailout.

The tax proposal on all bank accounts led to vicious backlash from the Cypriot people. Instead, the deal announced that depositors with 100,000 or more euros would have to take forced losses. 

Significantly, this bank-scare U.S. investors worries about a potential ripple effect that could disrupt global economic stability. Fortunately, Federal Reserve Chairman Ben Bernanke announced Friday, "We are monitoring very carefully but at this point we’re not seeing major risk to the U.S. financial system or the U.S. economy." Bernanke added the worst-case scenario would be if Cyprus' bank runs had a contagious effect as confidence has been knocked down. Bernanke's reassurance buffered general speculation over the issue.

However, the financial collapse was enough to dampen Wall Street's recent hot streak. The markets finished well last week, but today's news softened overall enthusiasm. Ron Florance, investing director at Wells Fargo commented, "People may have forgotten about Europe, and this is a reminder that it's still there." 

Cyprus only accounts for 0.2% of the EU's annual output, but Cyprus is known as a offshore banking safe haven. Wealthy Russians and multinational corporations have flocked to Cyprus banks for years. The country has held a reputable title for political and economic stability prior to the collapse.

The entire fiasco is amplified by the enormous size of Cyprus' banking sector. As of January, Cyprus bank deposits accounted for more than $160 billion. The whole nation's economic output only totaled around $25 billion. EU-powerhouse Germany has been quick criticize the country's huge banks. 

Still, while the immediate crisis appears to have found solid ground on the 10 billion euros emergency line, others are less optimistic. The new rules of the deal include a restructuring of the banking industry, rules that some worry will prevent Cyprus from being able to pay back its creditors.

In order to avoid bank runs (everyone going to collect their deposit, even though the bank doesn't have sufficient reserves on hand) the financial sector has remained closed over the past week. This has spelled doom for accustomed living conditions. The country's 860,000 residents have been hand-cuffed to cash-only transactions while uncertainty looms. Ali Wissom, a Cyprus restaurant manager, told the New York Times "The banks have closed, we don’t really know if they will reopen, and all of our suppliers are demanding cash — even the beer company."