The Winner of the Cyprus Debacle

The President of Cyprus capitulated before the European Union. Friday it was decided that the government would use the banks to confiscate 10% of every single bank account, individual and corporate, in every bank in Cyprus. The eurocrats won against the savers.

Today, the Parliament of Cyprus annulled the President’s decree. No money will be confiscated. The eurocrats can go fly a kite. The people won.

Uhm, not exactly. What looks as the winner on the surface is not. At best, the account holders’ victory is a temporary ceasefire. More will be coming. As long as they have money, there will be eurocrats who want the money. The victory is far from complete.

But there’s still a winner.

The winner is always a third party, never one of the direct participants in a conflict. That’s a rule of thumb. It’s because the competition lines are different from what is seen on the surface. What is seen on the surface is that the conflict is between the government and the people. No. The competition is between government and government. When one government makes a mistake, another government wins. Just like in business: when one business owner loses, another wins. When the trade unions win in one industry, the true winner are the industries who are not unionized, not the union members. And so on.

The Cyprus debacle has a clear winner: Putin.

What is not well known in the West is that an astounding number of bank accounts in Cyprus – and savings in them too – are owned by Russian citizens and their offshore companies, registered in Cyprus. After the dissolution of the Soviet Union, Cyprus was the only Western nation where Russians could fly to without having to wait in line for visas at the consulates in Moscow. Flights were cheap; in those early days of freedom, two-way charter flights to Larnaca from Moscow could cost as low as $70-80. As a matter of wonderful coincidence, Cyprus was also one of the three preferred nations for registering offshore companies. It was an open register, which means any one could see the identity of the owners, but Cyprus took corporate entities from other nations as legitimate owners too. So anyone who wanted a true offshore company, could register a company in, for example, Belize (closed register, $400 a year at the time, no taxes), and then use that company to register another one in Cyprus (open register). And then open a bank account in Cyprus. Or many bank accounts.

Under Yeltsin and his economic advisers, many of them pro-free market, Russia’s economy started on the way to more liberty. Many Russians who had entrepreneurial ambitions and courage started small businesses, and not so small businesses. Some made money, and some made lots of money. The problem now was, “Where do I save it?” Russia wasn’t an option: Yeltsin or not, no one trusted the government. Switzerland had a very restrictive immigration policy for Russians. Cyprus looked like the right choice. Soon the banks were awash in Russian money.

The problem, of course, was trust. For more than 70 years, envy was at the foundation of the official government ideology. Envy was also part of the official government policy: people were encouraged to report on each other to the authorities; and a whole apparatus of spies and informants was developed. As a result, envy permeated the very psychology of the Russian people. It did not disappear with the fall of Communism. Anyone with money could be sure he was bound to lose some or all of it, if others around him discovered he had more. Unless, of course, he was part of the ruling class. Better take the money out and never raise your head above the radar. Russia was the proverbial bucket of crabs: no need to put a lid on it, for every crab that tries to crawl of it, will be pulled back by the others. There was no trust in the society.

As a Russian entrepreneur told me a couple of years ago: “A significant part of my time was spent building an image of an average Joe with little to no money.” He owned two manufacturing plants. He now lives in the US. “They can have it all,” he says, “I am not going back.”

This exodus of so much capital, of course, wasn’t something the Russian government would love to see. But then, the years after 1991 were years of turmoil and confusion, and the government lacked the instruments to stop it. By the time Putin re-consolidated and re-centralized power along the old KGB lines, billions of dollars of Russian savings were in Cyprus. The West could be trusted. Russia couldn’t. Even the complete makeover of the Russian tax system and the introduction of a simple flat tax rate of 13 per cent in 2001 did little to return that money back to Russia. (It did help the government’s revenues, though. And it marginally helped the economy.)

This last Friday, Cyprus sent out a signal to the thousands of Russian account holders: “You can’t trust us anymore.” Not just Cyprus, but the European Union too. There is only one solution for those Russian account holders now: Take the money back home. Yes, yes, the measure didn’t pass, the Parliament annulled it, yes. But the shock is still there, and Russians trained and conditioned under Communism to read the signs in the sky will easily read the writing on the wall for the Cyprus banking system. Russia suddenly looks not so dangerous and untrustworthy anymore, in comparison.

Putin didn’t miss his chance. Grow Taller 4 Idiots He immediately had something to say about Cyprus, and it wasn’t flattering. Neither was it politically correct. He used a moral qualification, “unjust,” knowing well that this is exactly the kind of word his compatriots are looking for in order to gain assurance that their money will be safe back home. It’s been many years since the European political class has used any moral qualification, or has referred to any moral standard whatsoever when talking about government or politics. The former KGB officer suddenly looks like a defender of liberty, ethics, and the ordinary people, compared to the euro-apparatchiks.

Billions of dollars are coming back home to Russia, that’s for sure. Other billions are going there, moved by their European owners. Russia is learning how to become Cyprus, banking-wise. Not that this will necessarily help its economy; economic growth is the product of religious commitment, not of government policies or movements of money. But economic growth or not, Putin won another round of his political game. Or, rather, the European Union handed him his victory on a silver platter.

A very important lesson, known very well by statesmen of old, but ignored by modern eurocrats: trust is worth more than any amount of money. And therefore, it is not wise to exchange trust for money. That’s exactly what they did this last Friday.