Euro threat precipitates flight of capital from Cypriot banks

Capital flight from Cyprus has accelerated since eurozone politicians began threatening losses for bank depositors, and may have reached 12 per cent of the country's GDP over the past month.

Sources say lenders haemorrhaged €1 billion ($A1.3 billion) in deposits over the first two weeks of February, heightening fears that even talk of "haircuts" is deepening the banking crisis as rescue talks drag on between the European Union and the International Monetary Fund and the island's new leaders. The Bank of Cyprus reported deposit losses of €1.7 billion in January.

Brussels has warned against haircuts for depositors, a drastic move avoided in bailouts for Greece, Ireland, and Portugal.

Cypriot Finance Minister Michael Sarris told eurozone colleagues this week that such action would shatter confidence and set off a fresh round of the debt crisis.

"There is no way we can entertain the idea of any kind of haircut to any kind of deposits. This would be an accident in the eurozone not caused by markets, but a self-inflicted wound, a self-inflicted catastrophe, not only for Cyprus, but for the eurozone and perhaps even beyond."

The crisis in Cyprus is now deepening on every front. The jobless rate hit 22 per cent in February. The country will run out of money to pay its bills in May. An internal report by Brussels says the bank rescue costs may push public debt to 145 per cent of GDP, implying that debt relief will be needed.

Since European leaders have vowed not to repeat the mistake made in Greece where they set off a broader crisis by imposing wipe-out losses on investors, this means that the burden may fall on taxpayers in Germany and the European Monetary Union core.

The Cypriot crisis has been neuralgic in Germany ever since a leaked report alleged that the island was a haven for Russian organised crime. Nicosia agreed this week to a money-laundering probe but it is unclear whether this will placate critics in the Bundestag. Sigmar Gabriel of the Social Democrats said the business model of Cyprus was based on "Russian oligarchs, Serb mafias, and tax evaders".

Bankers say the attacks on Cyprus are deeply confused. Most of the Russian money is in Cypriot branches of Russian banks that are solid, or in large British banks.

"There is no chance that they will go after these banks because it would be illegal and amount to expropriating the Russian state," one banker said.

The Cyprus Mail says the outgoing Communist government whipped up hysteria against the banks to divert blame from its own mismanagement.