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Euro exit poses high risk option for Cyprus

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(Globalpost/GlobalPost)

An exit from the eurozone may look tempting for Cyprus in the throes of economic collapse but it poses a high-risk option for an island economy heavily reliant on imports, analysts say.

The Institute of International Finance, which represents the world's largest banks, said it would be "much easier" for the small EU state to bounce back through a devaluation, something which is not an option in the eurozone.

Paul Krugman, an American laureate of the Nobel Prize for economics, says "Cyprus should leave the euro, now" on his blog.

"Leaving the euro, and letting the new currency fall sharply, would greatly accelerate" rebuilding by allowing agricultural exports and the key tourism sector to be more competitive, he writes.

But Marios Zachariadis, a professor of macro-economics at the University of Cyprus, cautions that the country is heavily dependent on imports, which would become much more expensive.

Cyprus imports four times more than it exports, leaving behind a trading deficit of more than 4 billion euros ($5 billion) for an economy with a GDP of 17 billion euros.

"The increased cost of all imported inputs would actually make these sectors (agriculture, tourism) less competitive, unless you cut down the wages really low," Zachariadis said.

Alexander Michaelides, a professor of finance at the university, points out that the tourism sector is already running at full capacity.

"We cannot expect to get more than the two million tourists (a year) who already come, so a devaluation would in fact decrease the revenue while doubling the costs, as this sector is heavily dependent on petrol," he said.

The Greek Cypriots, who adopted the euro in 2008, were sceptical of the single currency even before the crippling terms were hammered out for an EU bailout aimed at rescuing their island from bankruptcy.

A November 2012 poll carried out by the European Commission showed only 48 percent of the population were in favour of the euro.

With unemployment shooting up and austerity measures kicking in, "public opinion will grow in favor of leaving the euro," forecasts Fiona Mullen, an analyst with the economic consultancy firm Sapienta.

The head of the powerful Greek Orthodox Church in Cyprus said last month that he favoured the debt-ridden nation leaving the euro.

"It's not easy, but we should devote to this as much time as was spent on entering the eurozone," Archbishop Chrysostomos II said in an interview. "The euro cannot last."

But Mullen warned against any hasty and disorderly exit from the euro, as sought by demonstrators angry at the harsh terms imposed on Cyprus by the troika of international lenders.

"When joining the euro, Cyprus gave away most of its (foreign currency) reserves," said Mullen. "We now have 450 million dollars of foreign exchange reserve which means we can only pay for two weeks worth of imports."

She said reserves would need to be rebuilt and fuel imports slashed before any euro exit, not taking into account that "there is no legal framework" for such an unprecedented move.

President Nicos Anastasiades himself has ruled out an exit, which would dilute the European Union membership of an island which has a third of its territory occupied by troops from regional giant Turkey.

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http://www.globalpost.com/dispatch/news/afp/130405/euro-exit-poses-high-risk-option-cyprus