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Illegal bank withdrawals could cripple Cyprus bailout

(Moneywatch) As Cyprus banks prepare to reopen for the first time in more than a week, lawmakers are investigating withdrawals from the nation's two largest banks before and after a government ban went into effect.

The government closed the banks last week amid worries about a run after the announcement of a bailout agreement which required depositors to lose a percentage of their money. However, withdrawals could still be made from ATMs and electronically for "exceptional reasons" such as humanitarian supplies, medicine and jet fuel.

On Monday Reuters, citing anonymous sources, reported that companies had been using these exceptional reasons to withdraw money from Bank of Cyprus and Laiki, the country's biggest banks.

While the closures affected people back home, both banks have kept open branches in London and placed no limits on withdrawals there. There is also concern that money may have been withdrawn via Russia's Uniastrum Bank, which is 80 percent owned by Bank of Cyprus and has no restrictions on withdrawals in Russia. Russians were among the largest depositors in Cypriot banks. Critics say Cyprus's lax bank regulations made it easy for Russians to launder money there.

A secret bank run may have begun even before the bailout agreement was signed. The German newspaper Der Spiegel reports:

There are indications that large sums flowed out of the two banks just before the first bailout package was signed in the early morning hours of March 16. At the end of January, some 40 percent of all savings held in Cypriot accounts were on the books of those two banks. Since then, however, much of it has been transferred elsewhere, despite orders from the central bank that accounts at the two institutions be frozen.

No one yet knows how much money has been withdrawn. Chris Pavlou, who was vice chairman of Laiki until Friday, told Reuters while some money was withdrawn over a period of several days it was in the order of millions of euros, not billions.

Now lawmakers are demanding the central bank provide them with a list of anyone who withdrew large amounts of money prior to the closure.

Cyprus needs to raise $7.5 billion in order to get the bailout money it needs to avoid default. A large portion of that money is to come from bank accounts with more than $129,000. Today Finance Minister Michalis Sarris said that depositors could see 80 percent of their money seized. Last week that amount was said to be in the 20 percent to 40 percent range.

Mark J. Grant of Southwest Capital says the increase is likely because there is less money in the banks than was believed.

"This is, I suspect, because while the banks were closed in Cyprus they were still open in Greece and Britain so certain monies crept out during the night -- and probably big money -- so the banks in Cyprus are in far worse condition than previously thought or admitted," Grant wrote in a note to investors.

Grant and others are worried that the withdrawals are large enough to prevent Cyprus from raising the money it needs which would blow up the bailout agreement.