Cyprus Bailout: Potential Recourse for Lost Investments

by Morgan Lewis
Contact

Large depositors in Cyprus's two largest banks may consider international arbitration and appeals to the European courts to recover funds lost under the bailout plan.

On 2 April, the government of Cyprus agreed to the terms of a €10 billion bailout plan with the European Commission, the European Central Bank, and the International Monetary Fund (IMF). The agreement involves a restructuring of two Cypriot banks, tax rises, and privatisations in order to raise additional funds for the bailout. Because the restructuring is designed to protect bank customers with deposits of €100,000 or less, the proposals include a "bail in" mechanism that will likely result in substantial losses for depositors with more than €100,000 at Laiki Bank and Bank of Cyprus. International arbitration and appeals to the European courts may provide legal recourse for depositors suffering losses. Whether or not this is the case, however, is likely to vary from depositor to depositor.

Background

Under the terms of the bailout plan, 37.5% of deposits exceeding €100,000 in Cyprus's largest bank, Bank of Cyprus, will be converted into shares in the bank. 22.5% of these deposits will be temporarily frozen in a fund attracting no interest and may be subject to further write-offs. The remaining 40% will attract interest, but this interest will not be paid unless the bank performs well. According to the Central Bank of Cyprus, however, 10%   has been unlocked and can be accessed by depositors. That said, Cyprus still has capital controls in place, and these controls are applicable to all Cypriot banks and allow individuals to withdraw only €300 a day and businesses to transfer only €5,000 a day to accounts abroad.

The country's second largest bank, Laiki Bank, which became 84% owned by the Cypriot government following a €1.8 billion bailout in June 2012, will be wound down. Its clients' deposits, up to €100,000, will be transferred to the Bank of Cyprus, whilst any deposits in excess of that will be left in Laiki Bank to cover its debts, thereby exposing those excess funds to potentially heavy losses. Laiki bondholders and other lenders to the bank are also unlikely to recover anything from the bank.

Russian nationals are estimated to hold €20 billion of the €68 billion deposited in Cypriot banks, and many are reported to have deposits exceeding €100,000. The Russian government has so far indicated that it will not help Russians who stand to lose a substantial part of their deposits in Cypriot banks, with the possible exception of state-owned companies, if any are seriously affected.

International Investment Law: International Arbitration

Bilateral investment treaties (BITs) are entered into between countries in order to protect the investments of the nationals of one country in the territory of the other. Among other things, these treaties give investors rights that protect them against expropriation or nationalisation of their investments by the other contracting state. Cyprus has a number of BITs in force.[1]

A BIT was signed between the Russian Federation and Cyprus on 11 April 1997, but this treaty was never ratified by Russia and so has not entered into force. This does not mean, however, that Russian owners of deposits in Bank of Cyprus or Laiki Bank cannot take advantage of the various other BITs with Cyprus that are in force. Where deposits are held by investment vehicles based in countries that are party to those BITs, such as Luxembourg or the Seychelles, the owners may still be able to rely on the rights granted by those treaties.

Legal recourse would be by way of international arbitration via the institution prescribed in the relevant BIT, such as the International Centre for the Settlement of Investment Disputes (ICSID). To pursue such an action, depositors will need to claim that their losses from either (i) the "bail in" of Laiki Bank or Bank of Cyprus or (ii) the capital controls applicable to all Cypriot banks are an unlawful expropriation of property.

Whether or not depositors can prove that their funds have been expropriated is largely dependent on the precise way in which the restructurings of Bank of Cyprus and Laiki Bank unfold, how long any measures are in place, and the scope of the rights granted to investors under the relevant treaty.

Depositors who can show that they are entitled to be protected by these BITs may, in theory, be able to argue that Cyprus illegally deprived them of their deposits in Laiki Bank or Bank of Cyprus because the state did not compensate them effectively after the deposits were expropriated. For example, the BIT in force between Cyprus and Luxembourg would permit Cyprus, in its own national interest, to deprive Luxembourg companies of their investments only where the Luxembourg investor is compensated up to the actual value of the investment as of the day before it was expropriated. It will be difficult to prove, however, that the "bail in" was an "expropriation" and that the "value" of the deposit just before the "bail in" was more than the amount after the "bail in".

Depositors might also have a claim under a BIT if they can show that their right to free transfer of investments was infringed by the capital controls put in place by Cyprus. The viability of such a claim will depend on whether the capital controls are temporary, as the Cypriot government claims them to be.

Claims against states in relation to bank bailouts are not unheard of. For instance, in 2012, Chinese insurer Ping An filed a request for arbitration with ICSID against Belgium in an attempt to recoup large losses from its investment in the former Belgian-Dutch bank Fortis, which was nationalised and broken up in the wake of the financial crisis.

European Union Law: European Court of Justice

Another potential avenue for recourse is an action pursuant to European Union (EU) law in the European Court of Justice (ECJ). The capital controls imposed by Cyprus may be contrary to article 65 of the Treaty on the Functioning of the European Union, which only allows member states to derogate from the principles of free movement of capital if the restrictions "are justified on grounds of public policy or public security."

The ECJ has interpreted such justification narrowly in previous cases, and it is clear that any measures taken by Cyprus must be proportionate to their objective and must not go beyond what is necessary to attain that objective. Again, the likelihood of success will depend whether the capital controls are temporary.

Human Rights Law: European Court of Human Rights

It appears unlikely that depositors would benefit from claims pursuant to the 1950 Convention for the Protection of Human Rights and Fundamental Freedoms (the Convention), of which Cyprus is a member. Article 1 of the First Protocol to the Convention provides for the protection of property, and Article 14 states that the rights and freedoms in the Convention shall be enjoyed without discrimination. However, any claim under Article 14 cannot be freestanding and must be attached to a substantive Convention right. Therefore, it would be very difficult for a depositor to prove a breach of the right to the protection of property. This is because the European Court of Human Rights (ECHR) will consider whether the Cypriot government's actions are in the public interest, proportionate, and necessary for the general interest of the community, whilst giving Cyprus a wide margin of appreciation.

An interesting but untested argument might be that—taking into consideration the measures taken by other Eurozone countries in relation to bank bailouts, which have not included a "bail in" of depositors—the Cypriot "bail in" was disproportionate to the general interest of the community in that it unnecessarily violated  the rights of individual depositors. Needless to say, the outcome of such a claim would be highly uncertain.

In order for a depositor to appeal to the ECJ or the ECHR, all domestic legal remedies in Cyprus must first be exhausted.


[1]. View a list of Cyprus's BITs here.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Morgan Lewis | Attorney Advertising

Written by:

Morgan Lewis
Contact
more
less

Morgan Lewis on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Custom Email Digest
Privacy Policy (Updated: October 8, 2015):
hide

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.

Security

JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at info@jdsupra.com. In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at: info@jdsupra.com.

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.