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Brian Jacobsen

Cyprus—a deal with negative consequences

AdvantageVoice® Blog—3-25-13
Brian Jacobsen, Ph.D., CFA, CFP®, Chief Portfolio Strategist

Cyprus and international lenders have come to an agreement for the Cypriot government to receive a 10 billion euro loan. The deal requires the second-largest bank in Cyprus to effectively wind down operations and the largest bank to scale back its activities. Instead of having all depositors at the two largest banks lose part of their deposits, only those with more than 100,000 euros—above the deposit insurance limit—will stand to lose part of their savings.

The deal is much better than the original plan, announced on March 16, where all depositors—insured and uninsured alike—would have lost money. That original deal would have undermined the integrity of not only the Cypriot banking system but the entire eurozone banking system, as it would have made a joke out of the deposit insurance system throughout the 17 nations. 

Having uninsured depositors take a loss will likely cripple the Cypriot economy for years, as almost half of Cyprus’ gross domestic product comes from financial services. Cyprus will have a hard time recovering from this. 

Other eurozone nations, especially Spain and Italy, may find their banking systems shrink as well. European banks have typically relied less on funding their activities with relatively less expensive deposits than their U.S. counterparts. By making it even riskier for large depositors to put money on deposit in eurozone banks, this decision will likely increase funding costs for many European banks, making them even less competitive. Additionally, because deposits tend to be more reliable funding sources than having to regularly tap credit markets, this could actually make the European banking system less stable. 

Until a eurozone-wide deposit guarantee system is in place, the eurozone will likely continue to have anemic growth due to a dysfunctional banking system and also continue to lurch from banking crisis to banking crisis. This doesn’t mean that there aren’t any investment opportunities in Europe. I think there certainly are, but those opportunities are likely in the companies that have the ability to access capital markets on their own and those that are domiciled in Europe but don’t depend on selling in Europe for growth.

The views expressed are as of 3-25-13 and are those of Chief Portfolio Strategist Brian Jacobsen, Ph.D., CFA, CFP®, and Wells Fargo Funds Management, LLC. The information and statistics in this report have been obtained from sources we believe to be reliable but are not guaranteed by us to be accurate or complete. Any and all earnings, projections, and estimates assume certain conditions and industry developments, which are subject to change. The opinions stated are those of the author and are not intended to be used as investment advice. The views and any forward-looking statements are subject to change at any time in response to changing circumstances in the market and are not intended to predict or guarantee the future performance of any individual security, market sector or the markets generally, or any mutual fund. Wells Fargo Funds Management, LLC, disclaims any obligation to publicly update or revise any views expressed or forward-looking statements.

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