THE way the public debt was being managed by former finance minister Charilaos Stavrakis could have caused the state’s liquidity problems, a finance ministry technocrat who later recommended seeking EU financial assistance as early as July 2011, told an inquiry yesterday.
Phedon Kalozois, the director of the finance ministry’s debt management office, had warned in February 2011 of the risks of the minister’s short-term borrowing policy, effectively falling out with his superior over the issue.
“The lack of medium-term strategic management of public debt and flexible yearly borrowing policy inevitably leads to transactions of an opportunistic nature with the only parameter being temporary lending cost and uncontrollable levels of fiscal risks,” Kalozois said in a memo.
Such risks included liquidity, “with the state being unable to settle its loan and other obligations.”
“Because the management of the public debt concerns public monies, any transactions of a speculative nature are not allowed,” the finance ministry technocrat said.
Kalozois told the inquiry that the last time Cyprus borrowed mid-term from the European market was November 2010.
Until then there was agreement between his office and the minister but that changed when later that month ratings agency Standard and Poor’s downgraded Cyprus for the first time.
This caused jitters in the market, Kalozois said, forcing the island’s bond rates to rise.
Due to that, the minister changed the borrowing policy, resorting to short-term borrowing from the domestic market to avoid the higher rates.
In light of the worsening crisis in Greece and other eurozone countries at the beginning of 2011, and the anticipated rush to raise funds from the markets, which would have raised rates further, Kalozois said his office insisted that Cyprus should borrow mid or long-term as soon as possible.
“And this is where the disagreement with the minister arose,” he said.
Short-term borrowing as a percentage of the state’s overall loans was 19 per cent in 2010. By 2011 it jumped to 46 per cent.
The disagreement led to Kalozois asking for a transfer, a request that was eventually denied although the understanding was that his views would be taken into consideration from that point onwards.
Despite the need of ensuring there was no connection between public debt policy and fiscal policy, it was not until December 2012 that independence was achieved – when a relevant law was passed.
“It has been proven internationally that one cannot use debt management to achieve fiscal goals,” Kalozois said.
He said Stavrakis’ forecasts differed from theirs’ in that they were overly optimistic.
“Our position was that data must be prepared by the (government) services and not politicians,” Kalozois said.
In May 2011, Stavrakis gave the green light for the office to go ahead with mid-term borrowing, only to find out that the markets were shut.
The investment banks the island hired as advisors for the issue said there was “absolutely no interest,” Kalozois said.
Until that time, the island could borrow €100 million in the short-term with just a phone call, he added.
To make things worse, at the end of that month, ratings agency Fitch downgraded the island three notches on its banks’ links with Greece, fiscal conditions and eurozone indecisiveness to deal with the ongoing crisis.
“We established that the Republic had no access to international markets. There was absolutely no possibility, not even short-term,” Kalozois said.
He added: “In a nutshell, the countdown to a possible default had started.”
Kalozois said being shut out of the international markets had not been expected.
“We could not borrow a single euro,” he said.
He said Cyprus became a global phenomenon as there was no other state with an A- rating that had been excluded from the markets.
“In other words, markets ignored ratings agencies,” he said.
From then on the state tapped into domestic banks but they could not cover the government needs on their own.
On July 25, 2011, Kalozois prepared a memo recommending seeking EU assistance, accompanied with data to prove that the state was effectively broke.
A second memo in August confirmed the data but the issue was put in the backburner due to a cabinet reshuffle.
The technocrats were then told that Cyprus did not have enough time to prepare its application – the island was on the brink of bankruptcy – and that a bilateral loan would be a temporary solution.
The government secured a €2.5 billion loan from Russia towards the end of 2011 and wasted another six months before applying for assistance, which was granted in March – under a different administration – with Cyprus paying a high cost for the delay.
And it was not before the end of 2011 that the previous administration decided to put measures in place to tackle the situation.
Phedon Kalozois, the director of the finance ministry's debt management office testified yesterday at the inquiry into the economy