Just how bad was the Cypriot business model ?

One of the more nasty strains of meme going round the Cypriot crisis is this : Cyprus has a business model (Converting russian deposits to lending) which is wrong. Well, its now dead. We know its dead because Angela Merkel said its dead. And who are we or Cyprus to argue with Dr Merkel. To be fair, its not just her, theres a lot of talk on blogs and social media that “at 7x its GDP the Cypriot banking sector is too big”

Theres a whiff here of how dare these hairy olive botherers have a success. For all its industrial might Germany is relatively muted as a financial sector. Cyprus has sunshine and not a whole pile else. Its economic potential lies untapped due in no small part to the ongoing division of the island post 1974. So how bad was the system? An interesting paper by a World Bank economist provides some clues.

Its banks were prudent : the tradition was to ring fence foreign deposits from local lending. The reclassification after 2004  of Greek deposits as “local”, concomitant on they both being now in the EU led to a boom in lending, and a significant amount of that went back to Greece. And therein lies a large part of the problem.

Cyprus had a large banking sector in 2004. But no larger than say Ireland or Malta or the UK or even the Netherlands. The post 2004 era saw its growth from large to supersized  but compared to Luxembourg its a tiddler. I must have missed the warnings that the Luxembourgois need to go back to steel and vineyards…

Second, the Cypriot economy was not a one trick pony. Yes, the large financial sector was large but its contribution to the Economy was not such as to make Cyrpus one big financial services company. Eurostat data suggest that we should be worrying about the disproportionate size of the financial sector in Bulgaria and the Czech Republic, or even Denmark or Austria as much as we should the Cypriots.  I must have missed that memo…

Cyprus has every right to decide its own way of doing business. It had a large sector and that got holed below the waterline by the Troika in Greece. Its now going to be punished for its success and by the failure of the center to be able to make joined up policy on who bears what losses where and on whose account. But rather than face up to that instead we get auld palver on flawed business models, dodgy Russians and a whiff of  “suck it up άνθρωποι ξωτικό”