Cyprus Bank Adviser Says Biggest Lender Can’t Be Allowed to Fail

Bank of Cyprus Pcl, the lender forced to impose losses on uninsured depositors in return for the country’s 10 billion-euro ($13 billion) bailout, must emerge stronger from the financial crisis, an independent adviser on the Cyprus banking system said.

Bank of Cyprus’s absorption of second-biggest lender Cyprus Popular Bank Pcl is a “difficult merger which contains considerable execution risk,” according to a report issued today by the Independent Commission on the Future of the Cyprus Banking Sector.

“Everyone has got to put a full effort into making a success of this merger, because if it fails one doesn’t really want to think what the consequences of that will be,” David Lascelles, the commission’s chairman, said in an interview in Nicosia. “Bank of Cyprus could emerge in a year and a half or two years as a very strong bank.”

Cyprus agreed on March 25 to measures including a tax on bank deposits of more than 100,000 euros at the nation’s two biggest banks in return for the financial rescue. That condition was demanded by the euro area and International Monetary Fund in a bid to shrink the country’s banking sector.

Capital Controls

Cyprus imposed capital controls after the agreement to prevent a run on all its banks, the first time such restrictions have been imposed in the euro area. The interim report said the banking sector needed a return to normality “as rapidly as possible.”

Total deposits in Cyprus’s banking system dropped 2.6 percent to 55.9 billion euros in May, the central bank said in a statement posted on its website today. Deposits in Cyprus’s banking system have fallen by 20 percent in total since the start of the year.

The commission was set up in November by the Central Bank of Cyprus after the nation’s banks suffered 4.5 billion euros in losses from Greece’s sovereign debt restructuring. Those losses prompted the Cypriot government to appeal for financial help in June last year.

The terms of the bailout, which also includes wage and pension cuts, may mean the economy of the eastern Mediterranean island shrinks as much as 8.7 percent this year, according to IMF forecasts.

Cyprus’s future as an international financial center depends on a “much more sophisticated, wider range of professional services,” Lascelles said. “Deposits will form part of that, but at the moment deposits are the major part of it, with tax breaks behind, and we will see that aspect becoming much smaller.”

Lascelles said that even after Bank of Cyprus emerges from the merger process, action will need to be taken to deal with the size of the new bank.

If “Bank of Cyprus emerges with half the market, that’s too much,” he said. “You can do two things: you can either split Bank of Cyprus up, or you can make other banks bigger. We consider both possibilities.”

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