Small Nation, Big Dilemma: CypRUS Or CyprUS?

Small Nation, Big Dilemma: CypRUS Or CyprUS?

Cyprus is embroiled in a balancing act, trying to mediate its relations with both Russia and the US without isolating either party (or, to be more accurate, for fear of being isolated by either party). But is the small island nation’s big dilemma an example of trying to have its cake and eat it too, and what are the consequences of this?

But, first, a little history lesson…

It was sometime in the mid-nineties when some veteran Cypriot lawyers and accountants decided to visit Russia and present Cyprus as the ideal destination through which Russian oligarchs could channel their fresh money.

From Moscow to Siberia, said Cypriots championed the country’s advantageous circumstances: in essence, its low tax rate, and the loose –some might say non-existent – supervisory framework. Soon, those visits started paying off. Russians began registering holding companies in Cyprus, started opening bank accounts and, later on, buying luxury houses across the island.

A new business dimension arose in the small Mediterranean nation: the business of professional services. And, even though the term “professional” wasn’t so reflective of the services available back then, Russian money kept flowing to – or, rather, more accurately – through Cyprus.

As a result of this new business dimension, the anatomy of the country’s economy changed. The services sector kept growing bigger and bigger, and more and more young people were following the paths of becoming lawyers, accountants and bankers. At some point, Cyprus became the country with the largest amounts of foreign direct investments from Russia and vice versa.

A second home

Cypriots have the reputation of being friendly and hospitable. It’s one of the country’s biggest advantages, which also helped the tourism sector grow substantially during the same period. Russians quickly started to see Cyprus not just as a transit destination for their money, but also as an unexplored paradise both for holidays and for permanent residence.

With this realization, the real estate sector also began to enjoy the fruits of Russian money. Cypriot coastal cities, like Limassol and Paphos, were transformed. Modern buildings were developed, expensive cars flooded the streets and demand for luxurious products was on the rise. Outwardly, everything seemed to be going right. Cyprus’ economy was booming, and Russians found a way to transfer their money in and out of the country with low cost and secrecy. No one will deny that a lot of dirty money from Russia was laundered through Cyprus during those years.

Inevitably, reputational issues arose. Cyprus soon joined the club of so-called offshore paradises, badly wounding its credibility. Western media often referred to Limassol as ‘Limassolgrad’, a wry play on the name of the Russian city formerly known as Stalingrad. In fact, it’s a term still employed today, as exampled when the well-known case of Paul Manafort came to light, and the media started tracing the route of the money he had hidden from American tax authorities.

The impact that Russian money has had on the economy of Cyprus was further highlighted when the depositors’ bail-in was imposed on the country’s two largest banks back in 2013, a radical step many believe was imposed as a means of targeting Russian money.

A new course

Over the last five years, the government and the majority of providers in the professional services sector have launched a concerted effort to redeem the country’s reputation, and purge the economy of suspect money. Banks followed suit, suspending thousands of accounts suspected of aiding money laundering.

Yet banks in Cyprus still have the Sword of Damocles swinging over their heads. US and European authorities have engraved two words on the sword: correspondent banking. Most Cypriot banks only have one international bank to correspond for transactions in US dollars. If those banks decide to suspend their partnership, then the country’s banking system will be blocked from the rest of the world. Bank of Cyprus , the country’s biggest bank, cooperates with Bank of New York Mellon BK -0.31%BK -0.31% and Citibank , N.A. for transactions in dollars. Hellenic Bank, the country’s second largest bank, cooperates only with Citibank for the same purpose.

Cypriot banks and the Central Bank of Cyprus recognize the danger. This is the reason they have embarked upon a crusade to convince regulators and banks around the world that the Cypriot banking system has made tremendous progress.

This effort coincides with the US authorities being extra sensitive and reactive to the business relationships countries have with Russian oligarchs, especially those oligarchs who appear on the sanction lists of the US Department Treasury’s Office of Foreign Assets Control.

Cyprus is now trying to balance its relations with the US and Russia, while at the same time being a member of the EU: a dangerous brinkmanship that – if not handle delicately – may cause devastating consequences for the entire country.

Antonis Antoniou, FORBES