Over the weekend, the “Troika” of the European Union, International Monetary Fund, and European Central Bank officials gave the president of Cyrprus a “take it or leave it” offer. Either accept €10 billion in assistance funds and raise €5.8 billion by haircutting the creditors of Cypriot banks, or else get €0 in assistance and have the ECB withdraw support for your banking system. Since then, Cyprus has been neither taking it or leaving it, instead maintaining a prolonged bank holiday as various wrangling goes on. Today’s news is that the ECB has had enough. They want Cyprus to either come up with a politically acceptable plan that hits their numerical targets, or else see support for their banking system withdrawn.
What does that mean? Well the technical details of the Emergency Liquidity Assistance program and its withdrawal are technical, but the big picture is simple. The key reason not to leave the eurozone is that doing so would destroy the Cypriot banking system and wipe out lots of people’s savings. But if ELA is withdrawn, the Cypriot banking system will die anyway and everyone’s savings will be lost anyway. Having already lived through the downside, the only path to recovery will be to introduce a new currency. And if that were to happen, then even though Cyprus is small it would be a historic event with reverberations in much larger and more important countries.