Opinion of the European Central Bank of 2 July 2012 on the recapitalisation of the Cyprus Popular Bank (CON/2012/50)
Date: 2012-07-02
Institutions: European Central Bank
Subjects: Cyprus, bank, bond, capital increase, financial stability, issue of securities, national law

EN 

ECB-PUBLIC 

OPINION OF THE EUROPEAN CENTRAL BANK 

of 2 July 2012 

on the recapitalisation of the Cyprus Popular Bank 

(CON/2012/50) 

Introduction and legal basis 

On  30  May  2012,  the  European  Central  Bank  (ECB)  received  a  request  from  the  Cypriot  Ministry  of 

Finance for an opinion on a Ministerial Decree regarding the recapitalisation of the Cyprus Popular Bank 

Public Co. Ltd. (hereinafter, the ‘Ministerial Decree’).  

The ECB’s competence to deliver an opinion is based on Articles 127(4) and 282(5) of the Treaty on the 

Functioning  of  the  European  Union  and  the  third  and  sixth  indent  of  Article  2(1)  of  Council  Decision 

98/415/EC  of  29 June 1998  on  the  consultation  of  the  European  Central  Bank  by  national  authorities 
regarding draft legislative provisions1, as the draft decree relates to a national central bank and to rules 

applicable  to  financial  institutions,  insofar  as  they  materially  influence  the  stability  of  financial 

institutions and markets. In accordance with the first sentence of Article 17.5 of the Rules of Procedure of 

the European Central Bank, the Governing Council has adopted this opinion. 

1.  

Purpose and contents of the Ministerial Decree 

1.1  The  Ministerial  Decree  lays  down  a  scheme  for  the  recapitalisation  of  the  Cyprus  Popular  Bank 

(CPB), with the involvement of the Government of the Republic of Cyprus. The legal basis for the 

Ministerial  Decree  is  Article  4  of  the  Management  of  Financial  Crises  Laws  of  2011  to  2012 
(No.2)2, read in conjunction with Articles 6, 7 and 14 thereof.  

1.2  More specifically, Articles 3 and 4 of the Ministerial Decree provide that the Government of the 

Republic is to underwrite the full amount of a rights issue to be launched by the CPB. The issue is 

to be open to existing shareholders and new investors alike and will be up to an amount of EUR 1 

800 million. The Republic is to acquire any non-subscribed rights in consideration for the provision 

of zero-coupon government bonds with a one-year maturity which are to be automatically renewed 

upon maturity. The government bonds are to be listed on the Cyprus Stock Exchange and are stated 

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2  

OJ L 189, 3.7.1998, p. 42. 
Law Ν. 200(Ι)/2011 Episimi Efimerida tis Dimokratias No 4314, 30.12.2011, p. 1678, as amended by Law 40(Ι)/2012, 
Episimi Efimerida tis Dimokratias 4330, 27.4.2012, p. 371. The ECB was previously consulted on the Financial Crises 
Law and issued Opinion CON/2011/93 in response. 

 
 
 
 
                                                 
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to  be  traded  without  restrictions3.  The  rights  are  issued  at  a  price  of  EUR  0.10  per  share4.  To 

facilitate  the  Government’s  exit  strategy,  freely  transferable,  non-listed  share  warrants  are  to  be 
issued to the Republic5, with any shares acquired by the Republic being eligible to be repurchased 

within five years, either by the CPB’s shareholders through exercise of their share warrants, by the 
CPB itself or by third parties6. The Republic reserves its right to exchange at any time, in whole or 
in part, the government bonds through which it has subscribed to the rights issue with cash7. 

2. 

General observations on the Ministerial Decree 

The  ECB  understands  that  the  Ministerial  Decree  is  a  follow-up  to  the  European  Banking 

Authority’s  (EBA)  publication  of  a  formal  Recommendation  and  final  figures  relating  to  the 

recapitalisation needs of European banks on 8 December 2011. The EBA’s Recommendation and 

figures were part of the broader European package agreed by the European Council on 26 October 

2011  and  confirmed  during  the  ECOFIN  Council  on  30  November  2011.  This  package  aims  to 

address the current situation in the Union by restoring stability and confidence in the markets. The 

ECB  stresses  the  importance  of  bank  recapitalisation  as  an  essential  condition  for  financial  and 

systemic  stability,  as  well  as  a  condition  precedent  to  the  preservation,  by  Eurosystem 

counterparties, of their eligible counterparty status, within the meaning of Section 2.1 of Annex I to 

the Guideline ECB/2011/14 of 20 September 2011 on monetary policy instruments and procedures 
of the Eurosystem8.  

3.  

Specific observations on the draft law on financial crisis management  

While the ECB welcomes the initiative of the Cypriot authorities to recapitalise the CPB, it has the 

following  observations  to  make  on  the  particular  recapitalisation  scheme  proposed  in  the 

Ministerial Decree.  

3.1  Recapitalisation needs of the CPB 

The  Ministerial  Decree estimates  that  the  total  recapitalisation  needs  of the  CPB  will  not  exceed 

EUR 1 800 million. In the event that the CPB’s rights issue fails to attract sufficient private sector 

participation,  the  Government  would  need  to  provide  the  necessary  capital  up  to  the  amount  of 
EUR 1 800 million9. Should the need for a government capital injection prove to be higher than the 

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4  
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8  
9  

Ministerial Decree, Article 4(4). 
Ministerial Decree, Article 5. 
Ministerial Decree, Articles 4(2) and 6. 
Ministerial Decree, Article 9(1). 
Ministerial Decree, Articles 4(4) (iii). 
OJ L 331, 14.12.2011, p. 1. 
Taking  into  account  that  the  rights  issue  will  be  exercised  at  EUR  0.10  a  share  against  the  current  share  price  of 
EUR 0.08, the private sector participation in the rights issue is expected to be very modest. 

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amount  currently  envisaged  in  the  Ministerial  Decree,  this  would  not  provide  an  adequate  legal 

basis for government capital injections in excess of EUR 1 800 million.  

3.2  Monetary financing considerations  

3.2.1  The  monetary  financing  prohibition  in  Article  123  of  the  Treaty  prevents  central  banks  from 

providing overdraft facilities or any other type of credit facility to the public sector, including any 
financing of the public sector’s obligations vis-à-vis third parties10. The ECB has repeatedly stated 

that the financing of credit institutions by a national central bank (NCB), granted independently and 

at its full discretion, other than in connection with central banking tasks (such as monetary policy, 

payment  systems  or  temporary  liquidity  support  operations)  is  incompatible  with  the  monetary 
financing  prohibition11.  This  applies,  in  particular,  to  the  support  of  insolvent  credit  institutions. 

The rationale behind the ECB’s stance is that, by financing an insolvent credit institution, an NCB 

would be assuming a state task. The same concerns apply to the Eurosystem financing of a credit 

institution which has been recapitalised to restore its solvency by way of direct placement of state-

issued  debt  instruments  where  no  alternative  market-based  funding  sources  exist  (hereinafter  the 

‘recapitalisation  bonds’),  and  where  such  bonds  are  to  be  used  as  collateral.  Against  this 

background, the ECB notes that, in such a case of a state recapitalisation of a credit institution by 

way of direct placement of recapitalisation bonds, the subsequent use of the recapitalisation bonds 

as collateral in central bank liquidity operations raises monetary financing concerns.  

3.2.2  Furthermore,  Article  123  of  the  Treaty  prohibits  central  banks  from  purchasing  debt  instruments 

issued  by  Member  States  directly  from  Member  States.  Thus,  debt  instruments  issued  by  central 

governments  may  be  purchased  on  the  secondary  market  only  and  such  purchases  made  on  the 
secondary market may not be used to circumvent the objective of Article 123 of the Treaty12. In this 

respect,  the  ECB  notes  that,  in  the  absence  of  any  alternative  market-based  funding  sources  for 

recapitalisation bonds, and to the extent that such bonds have been acquired by the credit institution 

in  the  context  of  a  direct  placement,  the  acceptance  of  the  bonds  used  for  the  recapitalisation  as 

collateral  could  amount  to  a  circumvention  of  the  prohibition  on  direct  purchases  of  debt 

instruments from central governments by the central bank. 

3.2.3  In  view  of  the  legal  constraints  under  the  monetary  financing  prohibition,  a  case-by-case 

assessment of the existence of alternative market-based funding sources will be required for credit 

institutions  receiving  central  bank  financing,  where  they  have  been  recapitalised  to  restore  their 

solvency by way of direct placement of recapitalisation bonds which are to be used as collateral.  

10  

11  
12  

See  Article  1(1)(b)(ii)  of  Council  Regulation  (EC)  No  3603/93  of  13  December  1993  specifying  definitions  for  the 
application of the prohibitions referred to in Articles 104 and 104b(1) of the Treaty (OJ L 332, 31.12.1993, p. 1). 
See, for example, the ECB’s Convergence Report May 2012, pp. 29-30. 
See the seventh recital of Council Regulation (EC) No 3603/93. 

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3.3   Fiscal considerations  

The  use  of  recapitalisation  bonds  entails  a  number  of  fiscal  drawbacks  which  are  linked  to  their 

non-funded nature. Recapitalisation bonds have to be booked by the recipient bank at book value, 

meaning  that  they  cannot  be  issued  at  a  substantial  discount  to  serve  recapitalisation  purposes. 

Moreover,  as  the  total  amount  of  government  bonds  to  be  issued  for  recapitalisation  purposes 

depends  on  the  prevailing  market  rates,  their  issuance  could  have  adverse  implications  on  the 

government balance for years to come. Besides, the increased government debt burden can reduce a 

government’s options for raising funds from the private market increasing the likelihood that the 

issuing government has to turn to international or foreign parties for financial support. Finally, in 

those  cases  where  recapitalisation  bonds  bear  interest,  the  unfunded  character  of  their  issuance 

increases the government’s debt service payments.    

3.4  Recapitalisation versus resolution  

In  view  of  the  fact  that  the  support  measures  under  the  Ministerial  Decree13  aim  to  address 

solvency problems at a financial institution, the ECB considers that the objectives pursued by the 

support  measures  may  be  better  achieved  through  bank  resolution  tools.  A  fully-fledged  bank 

resolution regime, comprising tools such as bridge banks, asset separation and transfers of business 

would offer legally sound means of resolving institutions on the brink of insolvency, safeguarding 
financial stability, whilst addressing stakeholder rights14.   

3.5  Financial stability considerations 

With respect to the choice of recapitalisation instruments, the recapitalisation of banks with funded 

or,  a  fortiori,  unfunded  government  bonds  has  a  number  of  drawbacks  from  a  financial  stability 

perspective.  More  specifically,  market  participants  may  not  regard  the  injection  of  unfunded 

recapitalisation bonds as a credible recapitalisation technique, as it does not result in the provision 

of fresh cash to the banks, and thus may not help restore market access. Despite the fact that it can 

serve  as  a  means  of  meeting  the  capital  adequacy  ratio,  recapitalisation  through  the  injection  of 

such  unfunded  recapitalisation  bonds  can  only  change  the  risk  absorption  capacity  of  the  bank 

gradually  over  time,  as  cash  flows  associated  with  these  bonds  are  accumulated.  Also, 

recapitalisations  through  government  bonds  forming  part  of  the  bank’s  assets  can  reinforce  the 

feedback loop between the state and the bank. This is to be avoided. 

3.6   Central bank involvement  

The  ECB  notes  that  the  Ministerial  Decree  caters  for  the  involvement  of  the  Central  Bank  of 

Cyprus (CBC) at various stages of the recapitalisation process envisaged in the Ministerial Decree. 

13    Ministerial Decree, Article 4 (1)  
14  

In this context see the Commission’s Proposal for a Directive of the European Parliament and of the Council establishing 
a framework for the recovery and resolution of credit institutions and investment firms and amending Council Directives 
77/91/EEC and 82/891/EC, Directives 2001/24/EC, 2002/47/EC, 2004/25/EC, 2005/56/EC, 2007/36/EC and 2011/35/EC 
and Regulation (EU) No 1093/2010 (COM(2012) 280/3).   

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These  stages  include  (a)  the  approval  of  the  repurchase  of  own  shares  by  the  CPB,  (b)  the 

appointment to the CPB of an Independent Advisor who is responsible, inter alia, for preparing a 

restructuring  plan,  and  (c)  the  appointment  of  up  to  five  members  of  the  CPB’s  Board  of 
Directors15.  When  considering  the  CBC’s  supervisory  tasks,  and  the  powers  conferred  upon  it 

under  the  Management  of  Financial  Crises  Laws  of  2011  to  2012,  the  ECB  is  satisfied  that  the 

CBC’s  involvement  at  various  stages  of  the  recapitalisation  process  does  not  raise  concerns 

relevant to the CBC’s independent exercise of its Eurosystem tasks, in line with the Treaty and the 

Statute of the European System of Central Banks and of the European Central Bank. 

This opinion will be published on the ECB’s website 6 months after its adoption. 

Done at Frankfurt am Main, 2 July 2012. 

[signed] 

The President of the ECB 

Mario DRAGHI 

15   Ministerial Decree, Articles 9(2), 10(1) and 11(1).  

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