Who will shoulder the pain from the Cyprus bailout deal?
The first-order sufferers will be small businessmen (mostly Russian) and upper-middle Cypriots and foreign residents with their money in Cypriot banks. But the whole region will take a longer-term blow from the loss of Cyprus as a place for upstart businesses to park capital. Capital that can’t be parked cheaply in the E.U. won’t be invested in the E.U. – at least not by the smaller, less financially “connected” entrepreneurs who drive economic dynamism and growth.
The big Russian firms that bank with the Russian Commercial Bank in Cyprus have protection in the deal, although they will have more trouble moving capital around under the “capital controls” to be implemented, which hwill keep depositors from draining their accounts. Russia has been relatively quiet and mild on the terms of the Cyprus deal, largely because the biggest Russian depositors in Cyprus bank with the Russian Commercial Bank and won’t be hit with the 40% “amputation” tax on their accounts. For the average traditionally-autocratic government, smaller entrepreneurs are always easier to accept as roadkill. They may create jobs and revenue, but they aren’t in a position to line politicians’ pockets and they’re not easy to marshal as a means of geopolitical leverage – unlike, say, Gazprom.
It will hurt the E.U. for Russians to flee Cyprus; it will hurt equally for only the biggest, most state-connected Russians to remain in Cyprus. All the Russians won’t necessarily flee, but if nothing else changes, and the bank deal defines the future, the dynamism of the Russian economic presence in Cyprus will be bled off. The economy of Cyprus will become more of an elephants’ dance than a coyote squabble, even with the gas eventually coming up from the ocean floor. Cyprus will go further down the road taken by too much of the E.U., discouraging entrepreneurship and overserving itself on the future obligations.
Italy and Spain are obvious others to bring up, of course, and everyone is doing that. Besides serious debt and bank-solvency problems, they have already gone further down the controlled-economy road than Cyprus has (which is the main reason for their debt and solvency problems). Their big-name companies, the international giants, are incapable of growing the economy, because it doesn’t work that way. The big firms aren’t the future. Small entrepreneurship is always and everywhere the future, and in Italy and Spain, engaging in it openly is discouraged by regulation and the tax code.
There is a regional aspect to this, of course; a difference among points of the compass, inside both countries, and between city and hinterland. Such differences are creating fault lines throughout the E.U. Those gaps aren’t going to narrow any time soon. Now is a good time for the E.U. to take stock and recognize that the entire Cyprus problem, like the Greece problem, was created by the actions of government.
Left to their own devices, people coming together for economic activity don’t do this to themselves. Failure is liquidated; it is not enshrined in policy. But governments do the opposite, propping up and enabling failure for as long as they can, because they insist for political reasons on the policies that make it inevitable. Government’s perspective is always political, and therefore inimical to economic efficiency. The more government is chartered to control, the richer a society has to be to afford it. And unfortunately, there’s a kind of “peak government” rule to this: a society in which government controls too much cannot stay rich.
The U.S. is headed down this path too, but most of the E.U. is already further down it. The E.U. and its individual nations created this problem through policy. There’s a political relief-valve aspect to making “the Russians” pay for it (although the FT article linked to above points out that at-risk Russians expect to find ways to get their money away from the amputator’s saw). But the Cyprus crisis illustrates nicely that the cost of over-regulatory government will lead to outright theft from the people. Policy as cosmically comprehensive as that in the E.U. model will indebt everyone, until theft seems to be the only option left.
This isn’t a condition for stability. Moscow hasn’t given up on Cyprus, which still sits enticingly athwart Turkey and Europe. The Cyprus deal won’t last very long – not while Cyprus and the E.U. remain in the vise of the E.U.’s negative, defensive policies. (If the Russians sneak enough of their money out, the Cyprus deal won’t last long enough to auction off the office supplies with the Laiki logo).
What Cyprus needs is positive help – geopolitical, regulatory, investment – to strengthen her economy. Her banks can’t be made liquid and viable by any other method. The Russians have descended on her over the past 20 years with entrepreneurial excitement, but they’ve done so in the context of the E.U. orientation of Cyprus. Politically, Cyprus was on her own. Why don’t, say, the Brits and Dutch descend on her with entrepreneurial interest, plus a political interest in building up Cyprus as a thriving European outpost? There’s going to be a new status quo; the time to start shaping it is now.
But “E.U.-ism” is probably not constituted to do anything about that, even if some can see the need for it. This is a big test for the E.U. concept, whose fundamental approach is to assume static political and economic conditions and increase regulation in the context of them. In the absence of an economic surge, restructuring the Cypriot banks may briefly satisfy our ideas of financial management, but it’s basically a paperwork drill. The E.U., as it has been practiced up to now, doesn’t have a useful answer to the Cyprus question. We’ll be doing all this again before too long.
Originally published at The Optimistic Conservative.
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