Sunday marked the anniversary of Cyprus’ shock plan to raid the tiny island’s bank deposits. The envisaged tax, backed by the euro zone, covered all banks and all deposits, whether insured or not.
Although that unwise scheme was later rescinded, much damage was done to a country already deep in financial crisis. Instead of a generalised deposit tax, uninsured deposits of the island’s two large troubled lenders suffered big haircuts. Meanwhile, capital controls were imposed.
These restrictions were supposed to be a short-term measure, not that this ever seemed likely. A year on, the most important controls—preventing people or companies taking more than small sums of money out of the country—are still in place and depressing the economy's animal spirits.
Cyprus bears most of the blame for its predicament. But the euro zone is also to blame, as it connived in the deposit grab idea and went along with other bad decisions too. It should now offer a helping hand, especially by enabling the lifting of capital controls.
The good news is that the Cypriot economy shrank “only” 5.4% last year. The troika—the European Commission, the European Central Bank and the International Monetary Fund—had initially projected a drop of nearly 9%.
There are three main reasons for the relatively good performance. First, tourism—especially from Russia—has held up well.
Second, the Cypriot economy is flexible. This has meant that companies have mostly been free to cut wages and survive, points out Fiona Mullen of Sapienta Economics, a local consultancy.
Third, domestic consumption has fallen less than expected. This may be because most ordinary people were not hit by the deposit haircut after it was restricted to accounts larger than 100,000 euros. They have also dipped into their savings.
However, all is not well. One concern is that the Crimean crisis may have a knock-on effect on Cyprus—if economic problems in Russia or
visa restrictions imposed by the West cut the flow of tourists.
But even without worrying about Russia, there are problems closer to home. For a start, investment has collapsed. The IMF forecasts that it will end this year 60% below its 2008 peak.
Some of the decline is healthy: Cyprus had engaged in a real estate binge. But the drop-off in investment in machinery means the country is not building for its future.
Part of the explanation is that companies are loaded up with debt. What’s more, they can’t get access to new finance because local banks are themselves up