Cyprus and the Financial Crisis

The Controversial Bailout and What it Means for the Eurozone

John Theodore, Jonathan Theodore

• Publisher: Palgrave Macmillan
• Year: 2016
• ISBN:
  9781137452757
• Topic: Economics
• Subtopic: Economic History
• Index: Economics

The 2012-2013 economic crisis in the Republic of Cyprus is commonly attributed to a number of factors, including the exposure of Cypriot banks to over leveraged local property companies; the knock-on effect of the Greek government debt crisis; and international credit rating agencies downgrading the Cypriot government's bond credit status. What followed was unexpected and controversial: a bailout on condition of a one-time bank deposit levy on all uninsured deposits in the country's second-largest bank, the Cyprus Popular Bank; and on the uninsured deposits of large proportion of the island's largest commercial bank, the Bank of Cyprus.Many have questioned the implications of Cyprus' ties with the Russian financial system, as well as the draconian and unprecedented bailout terms imposed on the Cypriot population by the Eurozone.There has been little written from the Cypriot perspective on these events. This book presents a study of the events surrounding the recent Cypriot Financial Crisis and its impact on the Eurozone. It incorporates insights from leading protagonists in the Cypriot government and banking sectors and focuses on qualitative research to assess the events that formed the backdrop of the crisis. The book analyzes the policies of many public and private institutions and presents the crisis alongside other Eurozone bailouts to compare and contextualize the ongoing issues. Cyprus and the Financial Crisis also explains the political and historical backdrop of the events, including the wider Cypriot experience since the 1974 invasion, and the unravelling financial relationship between Cyprus, Greece and Russia. It incorporates the views of Cypriots from a wide and diverse spectrum, and presents the resilience of the island in fighting back to beat forecasts for recovery, helped by the Eldorado of gas finds off its southern shores.

1

Birth of a Nation

The Road to Independence

In this chapter we need to examine some of the key landmarks that have helped to influence events in the island’s most recent history and its attempts at authentic self-determination: sovereignty backed by protectorates, but thwarted by the complexities of the constitutional arrangement, the ethnic and cultural makeup of the island, and wider geopolitical pressures. It is important here to unravel how Greek Cyprus – both its elites and ordinary citizens – reacted to the breakdown of the system of power-sharing after 1963, and to the constant threats to its security that followed: most important, the 1974 invasions and its consequences. The reaction to these threats took different forms. Key to this response in political terms was the successful internationalisation of the island’s problems through the United Nations in New York. This was led by then president, Archbishop Makarios, who displayed an acute ability at playing off domestically one party against another to maintain his position as the elected head of government. Beyond that, it was to show the world that it could mirror the success of other island states in the provision of financial services to the international community: exploiting its constitutional foundation in British common law and appealing particularly to those geographically proximate clients from Russian and Eastern Europe, where banking laws were not as developed as in the west.

Many Cypriots sought the incorporation of Cyprus into Greece when Greece became independent in 1830, but the island itself remained part of the Ottoman Empire. The Russo-Turkish war of 1878 ended its direct rule over Cyprus; the sovereignty of the island continued to belong to Ottoman Empire until Britain annexed the island unilaterally in 1914, when it declared war against the Ottomans at the First World War. Following World War I, under the provisions of the Lausanne Treaty, Turkey relinquished all claims and rights on Cyprus. With the dissolution of the Ottoman Empire, the island was made a Crown Colony in 1925.

The period immediately before independence in 1960 was marked on the Greek Cypriot side by a ‘war’ of liberation against British colonial rule – mirroring those that took place in other countries seeking independence, but with additional dimensions related to the ethnic history of the island, and its strategic location in the Eastern Mediterranean. The war of liberation and the imposition on Cyprus of one of the world’s most complex constitutions set the scene for a turbulent and tragic phase of history, from which the island has only partly recovered. The difficulties the fledgling new state faced were enormous, and the vested strategic interests of Greece, Turkey, Britain and – most importantly – the United States were to fatally compromise its survival in a complete, intact form.

On the island itself, there was not only inter-communal wrangling between Greek and Turkish Cypriots, but also clear divisions among the Greek Cypriots themselves on the form that political self-determination would take: whether it be as an independent republic, or linked by enosis (union) with Greece. The role of these different factions vying for their national interests did very little to forge a sense of security for the citizens of Cyprus, nor did it give a sense of identity and common purpose. The drive for enosis plays a large, though not exclusive, role in provoking the Turkish invasion – splintering even further the Greek world it had sought to bind together as one indivisible whole.

The events that followed have been well documented in numerous studies by an array of historians, lawyers, scholars and security experts. Included in this are one of the authors of this book’s research and interviews over the years with leading politicians in the early years of the inter-communal conflict and senior UN officials.¹ However, the events of the last few years allow for their significance to be considered in light of events a generation later.

The psychological trauma of the invasion played no small part in pushing Greek Cypriots into the arms of those international institutions, political and financial, that could provide a better source of security and prosperity than the failed guarantees of the 1960 treaty. In the first decade of the 21^st century, one form of union – that with the Turkish north, as put forward in the Annan Plan – was rejected, and another – membership of the European Union (EU) and later the eurozone – was avidly embraced.

In a way, the accession of Cyprus to the EU effectively meant a political and economic enosis with Greece within the EU apparatus. This is precisely why – to the alarm of many Turkish Cypriots – the Greek president, Costas Simitis, declared in April 2003, when Cyprus signed its Accession Treaty with the EU, that enosis had finally been achieved.

The historical irony of this alternative path, forged with prosperity and security in mind, is that the legal and financial infrastructure that bonded Greece and Greek Cypriot Cyprus more closely than ever before, would wreck the fortunes, finances and stability of the island nation more rapidly than anything since the invasion itself.

Nationhood, Its Costs and Consequences

The road to independence for the island had its immediate origins in the EOKA campaign of 1955–59 to end British colonial rule.² EOKA, a Cypriot paramilitary organisation, fought for the island’s independence ‘from the British yoke’ and eventual enosis with Greece.³ Such was the aim of most Greek Cypriot movements, including the Communist Party of Cyprus – the forerunner of the modern AKEL party – since 1926. Britain had originally promised Cyprus to Greece in 1915 in exchange for their entry into World War I on the sides of the Allies. Although Greece did join the Allies, their entry was not immediate and the offer by Britain was not upheld. All attempts at getting support for union with Greece were then vigorously opposed by the British until the Second World War when in 1941, they offered Cyprus to Greece in return for invading Bulgaria, which had entered the war on the side of the Germans. It is noteworthy that many thousands of Cypriots volunteered to fight in the British forces as a result of these promises.

Although Greece by now had declared its support both for independence and enosis, events in the Eastern Mediterranean transpired to make its progress more haphazard. British foreign policy from the mid-1950s was absorbed with its Suez strategy in Egypt – and from 1956, the legacy of their disastrous intervention to occupy the Canal with France. The consequence of its failing to maintain a presence there made the government desperate to retain a strategic presence in Cyprus – if not full colonial sovereignty – as a base to pursue and maintain its foreign policy objectives in the Middle East and, especially, to help maintain an uninterrupted supply of oil from Iran and Iraq.

The retention of its military bases therefore played a dominant role in Britain’s negotiations over the independence of the island. In an era that saw a rapid decline in its status as a world power, Cyprus became for Britain the last bolthole close to its political and commercial interests further east. This principle dominated their position in the pre-independence negotiations and found its stamp firmly fixed in the Treaty of Establishment of 1960.⁴

Coupled with this, both Greece and Turkey were now part of NATO, and seen as pivotal to the strategic defence of the region against the Soviet Union; consequently, their respective interests could not be ignored in the decision-making process for Cypriot self-determination.

The armed campaign, which EOKA began with a series of bombings in April 1955, continued for four years until the political wing of the organisation, led by Archbishop Makarios, agreed to abandon the ambitions of enosis in favour of just independence as a solution to the conflict. In February 1959 a compromise agreement along these lines was concluded between Turkish and Greek representatives at Zürich and endorsed by the Cypriot communities in London and in March 1959.⁵

On August 16, 1960 the island of Cyprus was proclaimed independent by its last British governor, Sir Hugh Foot. The new state, populated by Greek Cypriots numbering 82% of the population and Turkish Cypriots 18% had Archbishop Makarios III of Greece as its president, and Fazil Kutchuk of Turkey as its vice-president. Under the new Treaty of Establishment, derived from the Zurich and London agreements, the Sovereign Base Areas of Akrotiri and Dhekelia remained (to this day) as British Overseas Territories, covering an area of 99 square miles. Support for this arrangement was underwritten by a Treaty of Guarantee signed by Britain, Greece and Turkey, as well as a Treaty of Alliance signed by Cyprus, Greece and Turkey. The latter unravelled soon after, when in 1963 the Turkish air force conducted a bombing raid in the area around Tylliria, following which the Republic of Cyprus announced that the Treaty was rendered null and void. As to whether these other treaties per se remain valid in international law, remains a matter of legal conjecture, deserving of more specialist attention than in this book.⁶

It is not unreasonable to point out that the agreements which confirmed the independence of Cyprus sidestepped the principle tenets of self-determination enshrined in the UN Charter by the way in which the whole negotiations for independence were conducted.⁷ To what extent were the people of Cyprus involved in the process and in particular on the transfer of its sovereign territory to the colonial power? Makarios had not been at the Zurich negotiations, and in London his signature had been requested. It was suggested that there was a possibility of duress/pressure from Athens to do so but contrary views believe this not to be the case, whatever misgivings were felt at the time.⁸

Makarios, as the representative of the Greek Cypriots, offered mixed messages on the final terms of the agreement. His statement, made after the London Conference held at Lancaster House in 1959, offered a relatively upbeat view of the future of the two communities of the island:

Yesterday I had certain reservations. In overcoming them I have done so in a spirit of trust and good-hearted good will towards the Turkish community and its leaders. It is my firm belief that with sincere understanding and mutual confidence we can work together in a way that will leave no room for dissension about any written provisions and guarantees. It is the spirit in the hearts of men that counts most. I am sure that all past differences will be completely forgotten.⁹

However the above statement seemed to differ in a later comment by Makarios that offered up more serious misgivings, when in an article on the proposed Amendments to the Cyprus constitution he remarked:

At the Conference at Lancaster House in February 1959, which I was invited to attend as leader of Greek Cypriots, I raised a number of objections and expressed strong misgivings regarding certain provisions of the Agreement arrived at in Zurich between the Greek and the Turkish Governments and adopted by the British Government. I tried very hard to bring about the change of at least some provisions of that Agreement. I failed, however, in that effort and I was faced with the dilemma either of signing the Agreement as it stood or of rejecting it with all the grave consequences which would have ensued. In the circumstances I had no alternative but to sign the Agreement. This was the course dictated to me by necessity.¹⁰

As was to be seen later in the official attempts to arrive at a permanent peaceful settlement, all parties seemed to respect the significance of Article 185 of the Constitution, stipulating that the ‘territory of the Republic is one and indivisible and the complete or partial union of Cyprus with any other state is expressly excluded.’

It is not an understatement to argue that the agreement sowed the seeds for future conflict between the Greek and Turkish Cypriots. The Treaties making up the Cyprus Constitution created a unique problem on the whole issue of power-sharing by communities of unequal sizes: with the Greek Cypriots at 82% of the population and Turkish Cypriots 18%. The treaties created a complex web of checks and balances aimed at securing the protection of the minority Turkish Cypriot community (although it is worth mentioning the Armenian community and other smaller minorities were not accorded any special minority rights under the 1960 constitution). Nevertheless, its complex and unwieldy formulation may have created more problems with the effective government of the island than it resolved. Well-intentioned in principle, its bewildering array of checks and balances were almost impossible to apply in practice. Five years later, the UN Secretary General’s Mediator on Cyprus, Dr Galo Plaza, described the 1960 Constitution created by the Zürich and London Agreements as ‘a constitutional oddity’, and noted that difficulties in implementing the treaties signed on the basis of those Agreements had begun almost immediately after independence.¹¹

As constitutional expert, Professor S.A. De Smith, observed in 1964:

The Constitution of Cyprus is probably the most rigid in the world. It is certainly the most detailed and (with the possible exception of Kenya’s new Constitution) the most complicated. It is weighed down by checks and balances, procedural and substantive safeguards, guarantees and prohibitions. Constitutionalism has run riot in harness with Communalism. The Government of the Republic must be carried on, but never have the chosen representatives of a political majority been set so daunting an obstacle course by the constitution makers.¹²

He further remarked that

Unique in its tortuous complexity and in the multiplicity of the safeguards that it provides for the principal majority, the Constitution of Cyprus stands alone among the constitutions of the world. Two nations dwell together under its shadow in uneasy juxtaposition, unsure whether this precariously poised structure is about to fall crashing about their ears.¹³

On the latter point, he was not proven very wrong.

A Unified Country Breaks Down, 1963–1964

It was only a matter of time before day-to-day governmental administration became unworkable. The constitutional arrangements broke down in November 1963, when President Makarios put forward ‘13 points’ for amending the constitution – some of which he had early raised, but been ignored on, at the London conference – to make it more workable. Fundamental to these proposals was the removal of the power of veto for both the (Greek Cypriot) president and (Turkish Cypriot) vice-president. It was the operation of the power of veto in foreign affairs, defence and internal security that seriously impeded the machinery of government in the first years of the state of Cyprus. Furthermore, Makarios called for a revision of the fixed 70:30 ratio of civil servants to something more accurately reflecting the island’s demographics, and the abolition of a separate Greek and Turkish judicial system. These measures were rejected by the Turkish Cypriot vice-president and in the strongest terms by Turkey itself, which threatened intervention if the revisions were unilaterally implemented.

There was little hope of a modus vivendi between the two communities of the island. Under the constitution, both communities were given the right of maintaining special relationships with their respective ‘motherlands’ of Greece and Turkey. By perpetuating educational and cultural collaboration from Greece and Turkey, combined with access to financial subsidies, there was little chance of developing a common and coherent ‘Cypriot’ identity. This division was further entrenched when eruptions of inter-communal violence in the winter of 1963–4 led to the setting up of enclaves’ where Turkish Cypriots moved out of mixed villages – many of which had seen peaceful coexistence for generations – into ethnically homogenous areas in an attempt to bolster their secu...

Table of contents

• Cover
• Title Page
• Copyright
• Dedication
• Contents
• Foreword
• Preface and Acknowledgements
• About the Authors
• Introduction
• 1. Birth of a Nation
• 2. Forever Divided?
• 3. The Financial Crisis Spreads to Cyprus
• 4. Bailouts and Bail-Ins
• 5. Economic Recovery and Strategic Challenges
• 6. Bail-In and the Future of the Eurozone
• Conclusion
• Notes
• Bibliography
• Index