Cyprus’s economic crisis: why effective GRC is essential

Written by Jake Plenderleith on Friday November 11, 2016

Numerous reasons have been cited for Cyprus’s economic collapse, but one of the most enduring has been the charge of weak corporate governance in Cypriot banks. The demise of the now defunct Laiki Bank, previously the second biggest bank on the island, is indicative of the weak Governance, Risk and Compliance (GRC) framework that existed across Cypriot financial and governmental institutions. One report detailed what it considered to be the largest domestic factor that contributed to the crisis:

…the most significant internal cause was the failure on a national policy level to recognise potential shocks and the risk of running a large bank industry with low supervision.   

The failure to register risk, coupled with a lethargic governance framework in the financial sector and across government, is considered to have played a substantial role in the scale of the problems that confronted the country. However, lessons learned from Cyprus’s financial collapse can help ensure that history does not repeat itself, and that the island can continue its climb back up the economic scale.       

Cyprus: the 2012-13 collapse

Cyprus’s bailout package from the EU – a €10 million sum - made them the fifth country to ask for European financial assistance, after Greece, Ireland, Portugal and Spain.

The country entered into recession in 2009 following the global economic downturn and some ill-judged decision-making further worsened the country’s position: some €5.7 billion was dangerously invested in Greek bonds. This, coupled with a worldwide decline in tourism, on which the island heavily relies, left Cyprus further entrenched.

Cyprus had no option but to appeal to Europe. The so-called ‘Troika’ – the International Monetary Fund, European Commission and European Central Bank – offered a third bailout deal to Cyprus which was accepted by the government in March 2013. The bailout came with five stipulations, the second of which was a demand that Cyprus implement an ‘anti-money laundering framework in Cypriot financial institutions’. 

The explicit reference to anti money laundering (AML) as part of the bailout deal exposed the lack of robust AML frameworks in Cypriot financial institutions, and how this directly contributed to the county’s economic collapse.

The Cypriot economy has indeed revived very quickly, in large part thanks to a rise in tourists, turning away from political instability in Turkey and terrorism in Tunisia and Egypt. In banking, there have been forward steps: the European Council recently recognised the progress made in the financial sector that has helped Cyprus improve its economic situation.

But the ramifications of the 2012-13 crisis are still being felt, with total unemployment at 12%. The fact that Cypriot citizens had to fund their country’s bailout (or ‘bail-in’), with many losing savings as a result, still understandably rankles.   

Laiki Bank: a story of mismanagement

One of the other stipulations issued by the Troika was the winding down of Laiki. Andreas Vgenopoulos, whose sudden death last week seemingly hasn’t altered the public perception of him as an emblem of the country’s financial meltdown, was the chairman of Marfin Investment Group which purchased a controlling stake in Laiki in 2006.

Laiki was as a result split into ‘good’ and ‘bad’ banks in 2013, with the ‘good’ bank made up of former merging with Bank of Cyprus and the latter closing. The ‘bad’ bank was made up of all uninsured deposits over €100,000.

Former Laiki employees have subsequently had accusations of misconduct levelled towards them. If this wasn’t bad enough, there have been allegations of corruption at the heart of Laiki. Prosecutors in Nicosia maintain that Vgenopoulos irregularly took control of Laiki back in 2006 with the help of Greek ship owner Michalis Zolotas.

Zolotas is alleged to have operated as a frontman for Vgenopoulos’s purchase of a majority stake in Laiki, by bribing then governor of Cyprus Central Bank Christodoulos Christodoulou to look the other way whilst the deal was made (the deal required Christodoulou’s approval). In October, Zolotas handed himself in to authorities in Athens after a warrant for his arrest was issued by a Nicosia district court.

Money Laundering

More broadly, there have been concerns raised that large amounts of money is being laundered through Cypriot banks. In the 1990s, sanctions against Yugoslavian leader Slobodan Milosevic imposed by the United Nations were illegally circumnavigated by Milosevic and his family via Laiki.

€20 billion is thought to have been put through Cypriot banks by wealthy Russian nationals, who use the island as an offshore bank and tax haven. This has led to accusations by European MP’s that Cyprus is paying only ‘lip service’ to AML procedures.

Proven - and alleged - cases of misconduct like this, seen in the light of Cyprus’s financial crisis and European bailout, inevitably raises the question of the extent to which effective AML procedures were implemented across Cypriot financial services. Given the Troika required AML implementation as a condition of the bailout, it can be assumed that the extent was probably limited.

Whilst the Cypriot recovery ostensibly resembles a European success story, there is no guarantee history won’t repeat itself. Cyprus’s heavily reliance on its financial services sector means that a unified AML framework is at the core of the country’s economic wellbeing.

Governance, Risk and Compliance   

The worldwide financial crash resulted in a tightening up of financial regulations. As a result, GRC systems, far from being viewed as a bonus or optional addition, are now rightly recognised as central to combatting bad practice in organisations.

Applied effectively in a business, they can reduce costs, cut inefficiency and improve communication throughout an organisation; it can help ensure a businesses’ goals and objectives are better defined, the company structure improved and regulations properly adhered to.

Effective GRC lays the foundations for success in an organisation, and is more than just a box-ticking gesture, something that Cyprus may well have discovered the hard way – with the financial sector at the heart of its economy, it is imperative that Cypriot institutions practice rigorous GRC. Doing so will aid Cyprus’s recovery, and help build towards a positive economic future.    

To find out more about ICA professional qualifications in Governance, Risk and Compliance, which can be studied all over the world, click here.

Learn more about the Diploma in GRC in Greece & Cyprus