The following article was published on July 26, 2013 (exactly 9 months ago). Unfortunately, it is still very relevant. As discussions about the split of the bank gain traction the focus should be on how to fund this bank (not on what it will be called!)….

A few years back a bunch of teenagers in the United States devised a very smart yet deadly game to show who amongst them was the worst coward, a chicken as they would call him. Unsurprisingly they called it a game of chicken. There are a few versions of the game, one of them went something like this. The game starts with two drivers in cars with no brakes, driving at high speeds, both headed for a single lane bridge from opposite directions. As the drivers approach the bridge they both know that if neither of them swerves before long they will have a head-on collision with a potentially fatal outcome. However, if the other driver swerves first, not only would both drivers make it out alive from the game but the driver that swerved first will be dubbed a coward. So the best outcome for either driver is for the other driver to swerve first. If however, the other driver is not going to swerve then it is better to swerve and be branded a coward but make it out alive than not swerving also and have the collision. Diagrammatically, the payoffs of this game look something like this:

This creates an interesting set of incentives. As both drivers are driving towards the bridge both want to figure out a way to convince the other that they do not intend to swerve, that they do not intend to back down, as they say to not blink no matter what. If they are successful in doing so then the other driver is better to swerve than stay on course. You might wonder how could one driver convince the other that he is crazy enough to not swerve whatever happens. Well one way of doing that would be if he could throw away the steering wheel just as the game started. In such a case, the driver who threw away the steering wheel has limited the choices of his future self but by doing so has effectively won the game as the other driver knows that no matter what the other driver cannot swerve and hence the only rational thing to do from the point of view of that driver is to swerve.

You might think what do teenagers and chickens have to do with our little island, especially as the Cyprus summer is reaching its peak and increasingly relaxation at the beach is replacing worrying at the office? In fact, they have more to teach us than you think. In fact, a variation of this very game is being played right before our eyes and its outcome will affect most of our lives in the years to come…. And one of the drivers has just blinked!

So let’s take a closer look at this very particular and very important game and let’s meet our two drivers…. The first car is driven by an Italian called Mario, a very smart guy as everyone acknowledges not one to be easily intimidated. The second car is driven by not one but a bunch of Cypriots (oh and a saint, but we will come to him later) who do not seem to know much about driving or that they are in this game to begin with….

For the Cypriots, swerving in this game means doing exactly what the Troika Memorandum dictates, in other words, proceeding with the tough structural changes, the privatizations, the fiscal tightening, all these things that are anathema to politicians because they make their voters very unhappy and hence unlikely to vote for them again. So if this is swerving what happens if the Cypriots do not swerve?

Well, this depends on what the smart Italian does who, in fact, is driving a much bigger, German-made car, with a big bazooka on it called ESM. If this Italian does not swerve then the two cars will collide which will destroy the Cypriots car. You might think that in the collision nothing will happen to the Italian’s car but that is not entirely true for this particular Italian has a weakness, he is in love with a small porcelain dog, let’s call him Euro, who sits on his car’s dashboard. Euro is a strange dog. As long as he is inside the Italian’s car it seems nothing can get to him, he is there to stay as the Italian would say. However, some fear (the Italian included) that this is partly an illusion and if somehow this big massive car was rattled a bit (even in a small collision with a bunch of Cypriots) maybe Euro would break and once he broke even a little bit who knows what would follow. Maybe other bigger cars, say like the one the Spanish are driving, would start getting their own ideas about how strong this Euro dog is and go after the Italian’s car as well.

So the Cypriots are starting to get ideas. They too have a dog on their dashboard, let’s call him Euro Minus. Euro Minus will definitely shatter if a collision were to occur and this will be very bad for the Cypriots (and no, replacing him with that old rag doll called the Pound will not make things better) but they are hoping that the Italian might help them a bit given that he doesn’t want a collision either. How can the Italian help them? Well, the Cypriots have also a serious problem with the engine of their car, called BoC. Unless the engine is fixed the car will crash anyway. Unfortunately the Cypriots cannot fix BoC on their own, they need the help of the Italian, who being Italian, is also an expert on cars. So if the Italian can fix the engine this will allow the Cypriots to live and fight another day.

So on one hand, we have the Italian who probably wants to avoid the collision but in order to do so he must help the Cypriots with their engine and on the other hand we have a bunch of Cypriots who are in badly need of a fix-up but at the same time must promise this Italian that if their engine is fixed they will promptly swerve (i.e. implement all that is required of them by the troika). And this is a problem. Because the Italian fears that if he is to help with the engine (this is like swerving for the Italian) the Cypriots might renege on their promise and not swerve after that and continue doing all those bad things they were doing in the past. So from the Italian’s point of view he doesn’t want to blink, he doesn’t want to swerve too early as this is his only leverage on the Cypriots. If he can convince the Cypriots that he is willing to risk a collision unless the Cypriots do as they are told then the Cypriots will have no alternative than to swerve first (i.e. implement all these painful measures) in the hope that the Italian would then fix their engine.

At some point the Cypriots were worried they were running out of time and sent a letter to this Italian (only they made the mistake of sending it to a Portuguese and leaked it to the media as well) to ask for help but the Italian called them in his office and explained to them that they must do more (i.e. swerve more) so that he knows for sure that the Cypriots can be trusted before he can help by swerving a bit as well (i.e. by fixing this engine called BoC).

So seven days ago this was the setting. The Cypriots, with their broken engine, were driving towards collision while trying to convince the Italian that they have indeed started swerving and that he now should help them by fixing their engine.

Well, a few days ago the Italian blinked.

How did he do that? Through his messengers, also known as Troika, he told the Cypriots that he would be willing to fix their engine by splitting it into two, leave one engine with all the good parts (the traditional engine) which would power the car from now on, and take the bad parts in another engine which will be stored in the trunk of the car to be fixed later on, again with the help of the Italian. Many people in Cyprus thought what’s so great about splitting an engine in two, how does that fix it? Well to understand this you must know a bit about banking, I mean engine, mechanics. This engine was running on a special fuel called ELA. This ELA brand is very hard to find, in fact it is only sold by the Italian and it is so expensive that you never actually buy it, the Italian extends it to you for as long as he likes. So when the Italian said, through his messengers, he would be ok to split the engine what he was really saying is that he would be willing to take a lot of his fuel, this ELA, into the bad engine which would help the traditional engine quite a bit. The second thing he was saying is that he would not be so strict with the requirements of this bad engine (what he calls the Tier 1 ratio) which implied he would be happy to take very little capital in this bad engine which would leave most of the capital in the traditional engine.

Great news wouldn’t you say? The Italian seems to have swerved, the Cypriots are close to having their engine fixed and they have swerved also so no collision is imminent. Time to let out a sigh of relief….

But wait! not so fast! A towering figure, dressed in black and gold, speaking the words of God, a saint for sure, takes the microphone and addresses his flock (or more appropriately, the sheep). Stop this madness, he says. This is a ploy, a way to steal our land, he says. And he calls upon the people to rise to stop this unholy act. And there is more. The President’s co-pilot comes out in a press conference and joins the saint and so do almost all other men of importance in this tiny island. It is a rare thing all these men who usually are at each other’s throats are joining forces to fight against this evil plan. God is on their side for sure….

Word of this reaches the office of the Italian. His messengers explain to him that even though he offered to fix the Cypriots engine, apparently noone is happy with him, not the politicians, not the saint, not the people, not even the ‘developers’ of this engine who would benefit the most from this…. He listens to the news, calmly it seems, slides open his iPhone, turns on Snapchat and sends the following SMS to the President…”WTF???” …

a few minutes later, the President replies back…”Welcome to Cyprus!”