CYPRUS: CENTRAL BANK GOVERNOR TAKES NEW JOB IN HIS STRIDE

UNCLAS NICOSIA 000721

SIPDIS

SENSITIVE

SIPDIS

E.O. 12958: N/A
TAGS: ECON EFIN PGOV CY
SUBJECT: CYPRUS: CENTRAL BANK GOVERNOR TAKES NEW JOB IN HIS STRIDE


REF: NICOSIA 350

(U) This cable is sensitive but unclassified. Please protect
accordingly.


1. (SBU) Summary: The recently appointed Governor of the Central
Bank of Cyprus, Athanasios Orphanides, assured us that global
financial problems arising from the "sub-prime" sector shake-out is
a non-issue for Cyprus. Problems he identified for Cyprus are
locally sourced (an overheated property market and bank over-lending
to the sector; lack of a centralized credit bureau and lack of
proper financial supervision in the "TRNC" causing the island's
overall reputation to suffer). He remains confident that, despite
these issues, the financial sector here is sound and that the
introduction of the Euro on January 1 will go smoothly. End Summary.



2. (U) On August 30, Econ Officer paid a courtesy call on Athanasios
Orphanides, the recently-appointed (May 3, 2007) Governor of the
Central Bank of Cyprus. Orphanides, as noted Reftel, is
MIT-educated, and a former U.S. Federal Reserve Senior Adviser.

No Sub-Prime Problems Here
--------------


3. (SBU) Orphanides, like our other local interlocutors in the
financial services sector, reassured us that Cyprus was not exposed
to the current sub-prime loans syndrome plaguing global markets.
"Cypriot banks," he noted with a grin, "are conservative and
well-regulated." He also commented that Cypriot banks lack the
"sophistication" to deal with "inherently riskier" products, such as
Collateralized Debt Obligations (CDOs) and Structured Investment
Vehicles (SIVs). On the positive side, he believes that the current
problems have made the world's global financial community more
properly assess and price risk. Similarly, European banks were less
exposed to this problem due to their more conservative practices;
where it did occur, this risk was localized - he made a pointed
reference to the fact that it was not German commercial banks which
have had problems but those controlled by government entities. He
also addressed the "moral risk" issue of bailing out failed banks.
He noted that the ECB had injected liquidity into the system, and
described this as an acceptable way of dealing with the problem, as
opposed to helping troubled banks individually.

Need for a Credit Bureau
--------------


4. (SBU) The Governor addressed the issue of credit reference
services locally. Cyprus does not have a widespread culture of
using credit reference services (i.e., credit bureaus.) Credit
reports on companies as well as individuals are available from a
handful of financial services companies for a fee, but their
operation is not institutionalized, and their client base remains
rather limited. The Association of Cyprus Commercial Banks (ACC)
has tried, so far without any success, to get local banks and
cooperatives to set up a joint credit reference bureau. Orphanides,
whose patience seemed to be running thin on this issue, commented
"We will give the ACC a little more time. If the ACC cannot pull
this off, then we will have to do it for them."

Property Sector Too Hot
--------------


5. (SBU) Orphanides also commented on the Central Bank's recent
decision (August 17) to increase the down-payment requirement for
housing loans from 30 percent to 40 percent for holiday homes and
second homes and to insist that the banks adhere to the existing
guideline of requiring a 20 percent down-payment for a first
residence. He noted that this decision was a prudential supervisory
measure, designed to cool down Cyprus' apparently overheating
housing loan market. In the first five months of 2007, housing
loans had increased 33.3 percent from the corresponding period in
2006, reaching CP 2.5 billion. Housing prices have also been
booming in recent years, creating fears, among many, of a housing
bubble. Although local banks hold all their loans in their own
portfolio (there is no securitization of bank loans here) the
Governor is confident that Cypriot banks will not face problems from
the potential real estate bubble because they concentrate on
straight housing loans, without the "exotic flavors" available in
the U.S., thereby maintaining a low risk exposure to interest rate
and value fluctuations with significant collateral. Nevertheless,
the Central Bank wanted to let some of the air our of the overheated
property sector and encourage banks to better diversify their loan
portfolios away from real estate.

Euro Transition - No Problem
--------------


6. (SBU) Regarding the Euro, Orphanides seemed quite complacent that
it would be adopted without a hitch on January 1, 2008. He noted
that the ("largely psychological") disadvantage of Cyprus losing
flexibility over determining its own monetary policy flexibility was
more than counterbalanced by the benefits of adopting the Euro.
Among these he listed the fact that Cyprus would become one of the
players in determining the course of the Euro instead of the
existing predicament of Cyprus of simply being at the mercy of the
Euro. Decreased transaction costs and increased trade and services
flows complete the picture of optimism that he painted.

How Do You Solve a Problem Like Supervision?
--------------


7. (SBU) He noted that Cyprus was following closely the global
debate on improving financial services supervision. He said
creating a single regulatory authority for all financial services,
as in the case of the United Kingdom with the Financial Services
Authority (FSA),was not necessarily the best model for all
countries. Such an arrangement, he noted, might even pose conflict
of interest issues for the single regulator, due to the different
needs of the different financial services sectors. He noted that to
date, the UK had not yet had the chance to test the hypothesis of
how well such a regulatory model really works when a crisis hits and
therefore remains unproven. On the other hand, he noted, the U.S.
offered an alternative model of regulation, with its own strengths
and weaknesses.


8. (U) Orphanides did not address specific weaknesses of Cyprus'
current financial services supervisory model directly, although this
is what he was alluding to. Cyprus currently has five supervisory
bodies to supervise the different branches of its prospering
financial services sectors: (a) the Central Bank of Cyprus oversees
commercial banks, both foreign-owned and domestic; (b) the
Cooperative Central Bank supervises cooperative credit societies,
although it does report to the Central Bank of Cyprus for deposits;
(c) the Cyprus Securities and Exchange Commission (SEC) supervises
stock trading firms; (d) the Superintendent for Insurance Control
supervises insurance companies; and (e) a new authority has been set
up recently to oversee employee provident funds. This fragmentation
of supervisory responsibility, although by no means unique to
Cyprus, poses its own challenges, feeding the debate of its pros and
cons, both in Cyprus and abroad.

Money Is Dirtier in the North
--------------


9. (SBU) On money laundering, Orphanides noted that Cyprus was
probably at the top of the list of countries doing everything in
their power to stem the problem. He also commented that it was high
time the international community addressed the money laundering
problems in the north of Cyprus. He said that it was unfair for
Cyprus' image abroad to suffer from wrong-doings in the area of
Cyprus outside the control of the government. "Turkey should be
held accountable for these problems," he stressed, "not the GOC."
The Governor noted that "legally we have the obligation to supervise
banks in the occupied area, but we can't fulfill this function for
well-known reasons." He therefore requested Embassy assistance to
learn more about USAID programs directed toward the financial sector
in the north of the island.


10. (SBU) On September 24-25, the EU led by the UK is sponsoring a
discussion in the north on anti-money laundering practices. The
Central Bank has already offered to participate in this discussion
but, according to Central bank officials, the Turkish Cypriots have
refused to allow them to participate. Orphanides noted that the
Republic of Cyprus naturally cared about what happened in its own
territory and that it was unfortunate that representatives from all
other EU nations would participate, without the ROC.


11. (SBU) Comment: Orphanides started off the meeting by proudly
displaying his farewell present from the Fed: a framed set of
one-dollar bills signed by all his former colleagues, including Fed
Governor Bernanke. Orphanides is clearly proud of his Fed
experience and appeared very confident and relaxed in his new role,
speaking with authority and conviction. He clearly enjoyed talking
about global financial matters even while stating that Cyprus is
largely insulated from much of the current problem due to the local
system's basic conservatism.


12. (SBU) Comment continued: The Governor clearly wants to find
ways to help improve oversight and regulation in the north of Cyprus
and therefore seems supportive of USAID's efforts in this regard.
Such support from someone who has already gained considerable
respect and support in the GOC will be helpful to US and EU efforts
to ensure GOC support (or at least avoid GOC opposition to)
ameliorate money laundering issues in the "TRNC."

SCHLICHER