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The euro zone took the unprecedented step of taking a bite out of depositors' accounts in Cypriot banks to help pay for its bailout of the island's financial system, a high-risk decision that could erode savers' confidence across the currency bloc and add to popular anger over its handling of the crisis. 34 min ago
A bailout of the banks would have driven the country's debt load above 140% of gross domestic product, prompting demands from Germany and the IMF that depositors in Cypriot banks take on part of the burden.
Those calls had encouraged many depositors to pull their money from Cypriot banks, or split them into several bank accounts to avoid breaching the €100,000 deposit-insurance limit under European Union law.
Amid fears of a bank run, Dutch Finance Minister Jeroen Dijsselbloem called an emergency meeting of his counterparts for Friday afternoon.
The timing would allow EU leaders, who held a planned summit in Brussels Thursday and Friday, to avoid the Cyprus conundrum. Crucially, however, Monday is a public holiday in Cyprus, which would give officials an extra day to implement decisions involving deposits.
Just after 5 p.m., finance ministers, IMF Managing Director Christine Lagarde, ECB executive board member Jörg Asmussen and the EU's economic-affairs commissioner, Olli Rehn, filed into a meeting room on the fifth floor of Brussels's Justus Lipsius, which houses the EU's ministerial meetings and summits. Cyprus's newly elected President Nicos Anastasiades stayed behind in the country's delegation room on the seventh floor, ready to approve or reject any potentialdeals.
Mr. Rehn was the first to make a specific proposal. To raise funds, Cyprus should impose a special levy on deposits, taxing accounts of less than €100,000 at 3%, those up to €500,000 at 5% and those above at 7%.
Such a "solidarity levy "—the brainchild of Thomas Wieser, an Austrian who chairs technical discussion among euro-zone finance officials, and Mr. Asmussen—could avoid a straight "haircut" on deposits, which they feared could be too destabilizing for Cyprus and the rest of Europe. The tax would be applied to all Cypriot banks, not just the two in deep trouble.
But Ms. Lagarde had something else in mind. The IMF chief presented a much more radical plan, in which deposits above €100,000 in Laiki and Bank of Cyprus would have been cut by between 30% and 40%. The owners of senior bonds in the two banks would also have faced losses—a step that was ultimately rejected. That plan would've limited the international bailout to €10 billion and raise some €7.5 billion from depositors.
It quickly garnered the support of German Finance Minister Wolfgang Schäuble, as well as the delegates of Finland, the Netherlands and Slovakia—all countries with strong, bailout-wary parliaments.
"We found the plan tough, but clean and quick," said one of the officials involved in the talks.
Cyprus Finance Minister Michalis Sarris said losses on savings—whether through a straight-out haircut or a tax—weren't acceptable to his government. But Mr. Schäuble , who wanted Nicosia to raise at least €7.5 billion from depositorsrejected his alternative proposals.
Faced with this, at around 10 p.m. Mr. Sarris went to brief Mr. Anastasiades, who approved a more limited levy: 3.5% on deposits below €100,000 and 7% on bigger accounts.
At that moment, Cypriot officials took an unprecedented step: They decided to freeze all electronic transactions from the island's banks to prevent a last-minute pullout in case the deal was leaked. But when Mr. Sarris returned to the fifth floor to presented that proposal, he found few takers. After another round of discussions, in which Mr. Schäuble demanded a tax of as much as 18%, Mr. Sarris was ready to accept a levy of 12.5% on deposits above €100,000 and 7.5% for smaller deposits.
He went back up to brief the president and Mr. Anastasiades rejected the deal, threatening to leave. At that point, around 1 a.m. a small group—including Ms. Lagarde, Mr. Rehn, Mr. Sarris, Mr. Schäuble, France's Pierre Moscovici, Mr. Asmussen and Mr. Dijsselbloem broke off into a separate room.
It was then—as other ministers snoozed or played on their iPads—that Mr. Asmussen told Mr. Anastasiades that without a deal, Cyprus's two big banks faced insolvency, since they would have no prospect of European funds to repair their battered capital buffers, said people who were present.
In that case, the ECB would no longer be willing to fund the banks with central-bank emergency liquidity, Mr. Asmussen said, these people said. The implication: The island's biggest banks might be unable to reopen after Monday's bank holiday.
Mr. Asmussen backed up the warning by calling ECB President Mario Draghi and letting him know the central bank might have to deal with the collapse of Cyprus's banks.
The ultimatum carried echoes of the ECB's threat to cut off emergency liquidity for Irish banks in late 2010, which forced a reluctant Irish government to accept a euro-zone bailout.
Mr. Anastasiades gave in, but insisted that no deposit be taxed at more than 10%. In a final round of talks, Mr. Sarris hashed out a compromise with the ECB's Mr. Asmussen, the IMF's Ms. Lagarde, Eurogroup head Mr. Dijsselbloem and the Commission's Mr. Rehn.
The levies were settled upon, but levels were under discussion Sunday night in Nicosia, with the likelihood the rate for smaller depositors would be cut and those for larger ones raised.
"It's not a pleasant outcome, especially of course for the people involved," Mr. Sarris said Saturday morning. "But we believe that it is something that compared with other possible outcomes is the least onerous."
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