Cyprus Avoids Bankruptcy With Deal

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  Mar. 24, 2013: Protesters hold a banner during an anti- bailout rally outside of European Union house in capital Nicosia, Cyprus.AP

BRUSSELS –  Cyprus secured a 10 billion euro ($13 billion) package of rescue loans in tense, last-ditch negotiations early Monday, saving the country from a banking system collapse and bankruptcy.

"We've put an end to the uncertainty that has affected Cyprus and the euro area over the past week," said Jeroen Dijsselbloem, who chairs the meetings of the 17-nation eurozone's finance ministers.

In return for the bailout, Cyprus must drastically shrink its outsized banking sector, cut its budget, implement structural reforms and privatize state assets, he said.

The cash-strapped Mediterranean island nation has been shut out of international markets for almost two years. It needs the bailout to recapitalize its ailing lenders and keep the government afloat. The European Central Bank had threatened to cut crucial emergency assistance to the country's banks by Tuesday without an agreement.

Without a deal by Monday night, the tiny Mediterranean island nation of about 1 million would have faced the prospect of bankruptcy, which could have forced it to become the first country to abandon the euro currency. That precedent would have roiled markets and spurred turmoil across the entire eurozone of 300 million people, analysts said, even though Cyprus only makes up less than 0.2 percent of the eurozone's 10 trillion euro economy.

The finance ministers accepted the plan reached in 10 hours of negotiations in Brussels between Cypriot officials and the so-called troika of creditors: the International Monetary Fund, the European Commission and the European Central Bank.

"We believe that this will form a lasting, durable and fully financed solution," said IMF chief Christine Lagarde.

Under the plan, Cyprus' second-largest bank, Laiki, will be restructured and holders of bank deposits of more than 100,000 euros will have to take losses, Dijsselbloem said, adding that it was not yet clear how severe the losses would be.

"This will have to be worked out in the coming weeks," he added, noting that it is expected to yield 4.2 billion euros overall. Analysts have estimated investors might lose up to 40 percent of their money.

Savers' deposits with all Cypriot banks of up to 100,000 euros will be guaranteed by the state in accordance with the EU's deposit insurance guarantee, Dijsselbloem said. Laiki will be dissolved immediately into a bad bank containing its uninsured deposits and toxic assets, with the guaranteed deposits being transferred to the nation's biggest lender, Bank of Cyprus.

Large deposits with Bank of Cyprus above the insured level will be frozen until it becomes clear whether or to what extent they will also be forced to take losses, the Eurogroup of finance ministers said in a statement.

Dijsselbloem defended the creditors' approach to make deposit holders take heavy losses, saying the measures "will be concentrated where the problems are, in the large banks."

The international creditors, led by the IMF, were seeking a fundamental restructuring of the outsized financial system, which is worth up to eight times the country's gross domestic product of about 18 billion euros. They said the country's business model of attracting foreign investors, among them many Russians, with low taxes and lax financial regulation has backfired and must be upended.

For Cyprus, the drastic shrinking of its financial sector, the loss of confidence with the recent turmoil and the upcoming austerity measures means that the country is facing tough times.

"The near future will be very difficult for the country and its people," acknowledged the EU Commission's top economic official Olli Rehn. "But (the measures) will be necessary for the Cypriot people to rebuild their economy on a new basis."

To secure a rescue loan package, Nicosia had to find ways to raise several billion euros so it could qualify for the 10 billion euro bailout package. The bulk of that money is now being raised by forcing losses on large deposit holders, with the remainder coming from tax increases and privatizations. The creditors had insisted that Cyprus couldn't receive more loans because that would make its debt burden unsustainably high.

A plan agreed to in marathon negotiations earlier this month called for a one-time levy on all bank depositors in Cypriot banks. But the proposal ignited fierce anger among Cypriots because it also targeted small savers. It failed to win a single vote in the Cypriot Parliament.

In an illustration of the depth of the fear of a banking collapse, Cyprus' central bank on Sunday imposed a daily withdrawal limit of 100 euros ($130) from ATMs of the country's two largest banks to prevent a bank run by depositors worried about their savings.

Cypriot banks have been closed this past week while officials worked on a rescue plan, and they are not due to reopen until Tuesday. Cash has been available through ATMs, but long lines formed and many machines have quickly run out of cash.

The Cypriot government also voted a set of laws over the past week to introduce capital controls, to avoid a huge depositor flight once its banks will reopen.

After the eurozone's finance ministers' approval, several national parliaments in eurozone countries such as Germany then must also approve the bailout deal, which might take another few weeks. EU officials said they expect the whole program to be approved by mid-April.

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FINANCIAL CALAMITY: Large California City Heads to Bankruptcy Court

By outward appearances, Stockton, a city of nearly 300,000 on the Sacramento-San Joaquin River Delta, seemed in the mid-2000s to be emerging from decades of struggle.

Next to its gleaming downtown waterfront -- a window to the West's largest fresh-water estuary -- a beautiful new $46 million glass hockey arena rose in 2005. That same year, an Oakland A's minor league baseball team began play in a new taxpayer-financed stadium, amenities sought by elected officials catering to a wave of new residents fleeing Bay Area congestion and soaring home prices.

High salaries and lucrative benefits were supposed to attract and retain the brightest city workforce to improve the quality of life for its residents. "We spent like the good times would go on forever," said Stockton spokeswoman Connie Cochrane.

But then the recession hit, and the good times went bust. On Monday, California's 13th-largest city begins federal court proceedings that could end with it becoming the most populous city in the U.S. to successfully enter bankruptcy, a move opposed by those who lent the money to keep it flush.

On its journey to this point, the Central Valley city has become emblematic of both government excess and the financial calamity that resulted when the nation's housing bubble burst. Its salaries, benefits and borrowing were based on anticipated long-term developer fees and increasing property tax revenue. But those were lost in a flurry of foreclosures.

After the city's population grew by nearly 20 percent between 2000 and 2005 and real estate tripled in value, home prices plummeted 40 percent the following year before bottoming out at 70 percent.

Within two years, Stockton had accumulated nearly $1 billion in debt on civic improvements, money owed to pay pension contributions and the most generous health care benefits in the state -- coverage for life for all retirees plus a dependent no matter how long they had worked for the city.

"It's not realistic to think that something like that could be sustained indefinitely," Cochrane said.

Today, its largest creditors are the companies that in 2007, after the economy began to contract, insured the bonds that funded the city's over-extended pension obligations.

The city's deal was risky from the start, said Jeffrey Michael, who as director of the business forecasting center at University of the Pacific has studied the city's struggles.

"It was like refinancing your house and dumping the proceeds into the Wall Street market and hoping your earnings go up faster than the interest rate on your loan," he said.

By 2009, the city began slashing its budget to stay afloat. The police department lost 25 percent of its 441 sworn officers and the fire department was cut by 30 percent. City staff was cut by 40 percent. The city general fund budget, now $155 million, has been cut by $90 million over three years.

The impacts were felt everywhere. Wells Fargo bank seized three parking garages when the city defaulted on the $32 million in bonds that financed them. Bond holders also seized the $40 million downtown high rise that was to become City Hall.

Stockton recorded its highest-ever number of murders in 2011 and 2012, and had three just last Sunday. Last year, an FBI analysis of violent crime made it the 10th most dangerous city in the U.S. Its unemployment rate is 17.5 percent, and it has the third-highest illiteracy rate in the country.

"We are fiscally insolvent, but service insolvent as well and that threatens our ability to attract new business, which we need to recover," Cochrane said.

Last summer, the city began negotiating with creditors, a requirement before entering bankruptcy. Ten employee unions agreed to temporary wage and benefits cuts.

Retired employees have also been asked to pick up a larger share of health care premiums, closing a $540 million retiree health care cost liability.

But the holders of the biggest share of the debt were the companies that in 2007 insured nearly $165 million in pension bond obligations to allow the city a lower interest rate and make them stable for investors. They were unable to negotiate a deal and want the city to avoid bankruptcy, which would likely allow Stockton to avoid repaying the debts in full.

Officials for the largest creditor, Assured Guaranty, said the city offered them 17 to 18 cents on the dollar for bonds that run through 2048, a deal they plan to argue in court is unacceptable. They say the city should further cut costs and raise taxes and point to city subsidies for the arena and $7 million in uncollected parking tickets.

City politicians also lack the political fortitude to cut contributions to CalPERS, the public employee pension program, Assured officials say. Employees who shared in the wealth when times were flush ought to sacrifice when they are not, they say.

Stockton wants to cut its repayment of the pension bonds without reducing the liability itself, the attorneys wrote.

Those opposing bankruptcy say the city needs long-term wage concessions from public employees, not the one- and two-year deals that were negotiated. The pain must be shared among all debt holders, they argue.

"Stockton has budgeted itself into insolvency. It is now trying to cram down a plan on those it did not favor, instead of focusing on creating a fair, equitable and long-term plan for all stakeholders," said Robert Tucker, managing director of Assured Guaranty.

Few people doubt the city will be successful at a four-day trial and enter bankruptcy, but that won't be the end of litigation. If bankruptcy protection is approved, a federal bankruptcy judge would still have to decide whether Stockton's bankruptcy plan is fair, or whether it singles out some groups to bear more of the financial burden than others.

"All of us have a stake in ensuring Stockton gets back on its feet," said Tucker.

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