Compensating bondholders entails moral hazard, fiscal watchdog warns

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By Stelios Orphanides

A proposal to compensate depositors and bondholders who lost money in Cyprus’s banking crisis tabled by DIKO chairman Nicolas Papadopoulos may entail moral hazard, the head of the Fiscal Council said on Thursday.

Demetris Georgiades picDemetris Georgiades said any decision to compensate depositors or bondholders should be in line with court decisions that will define the degree of responsibility of the various parties that may include supervisory authorities, other state institutions, banks, and also investors and depositors.

Affected depositors and bond investors “should be compensated by those who were responsible,” Georgiades said in a telephone interview on Thursday. “The state may also have a share of the blame and should then compensate and also punish those deserving punishment”.

Papadopoulos said on Wednesday, after meeting a delegation of the bondholders association, that he intended to submit a bill to parliament providing that 10 per cent of the government’s primary surplus over the next 20 years will be distributed to depositors and bondholders who lost around €9.3bn during the banking crisis.

Finance Minister Harris Georgiades said last week that implementing Papadopoulos’s proposal would require generating €1bn per year to compensate affected depositors and investors over the next 20 years. Cyprus is projected to generate a primary fiscal surplus of €500m annually.

The primary budget surplus is the difference between total government revenue and expenditure excluding interest payments. A state can generate a primary surplus and still post a fiscal deficit. In times of negative interest rates, it could also be the other way around.

“If we compensate them all for everything, then you shoulder the direct budget burden to foot the bill for the mistakes committed by those who are actually accountable,” said Georgiades, whose fiscal council monitors the state budget and its execution to avert derailment.

This, he said, was a disincentive, as nobody would “change their behaviour and therefore it would be a matter of time until we witness the same situation again,” he said.

Nicholas PapadopoulosPhivos Mavrovouniots, who attended Wednesday’s meeting with Papadopoulo,s said that the non-institutional bondholders’ group he chairs, representing thousands of investors who lost around €700m when the Bank of Cyprus and Cyprus Popular Bank, or Laiki, bonds were wiped out, will hold a second meeting with the DIKO chairman to submit its comments to the latter’s proposal.

The bondholder group chairman said in a telephone interview on Thrursday that they want Papadopoulos’s proposal to include an up to €100,000 compensation of each bondholder just like the government guarantee extended to depositors. He also said that that non-Cypriot non-institutional bond investors should not be excluded from the scheme.

“It would be better to exclude institutional investors and professionals,” he said.

Mavrovouniotis added that after the assurances from President Nicos Anastasiades in May, that he would discuss ways to compensate bondholders with party leaders, the association has not heard any news from the government.

A finance ministry source said that the ministry is currently looking into how to rehabilitate provident funds affected by the bail-in with an unspecified amount, adding that compensating bondholders was not on the agenda.

Bank of Cyprus, which absorbed Laiki’s operations in March 2013, has repeatedly rejected compensating bondholders without however, ruling out exceptions related to “humanitarian cases”. The bank told bondholders to pursue legal recourse.

Mavrovouniotis said that many of the association’s members cannot afford the financial cost of legal action against the bank, adding that even if they had the means, it would take up to ten years for the courts to adjudicate such cases.

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