Bank closures represent Cypriot capital controls: but are they legal?

1: LEGAL BACKGROUND

In 1958, the Treaty of Rome established four European freedoms which have remained fundamental principles of the European Single Market. They were freedom of movement for people, freedom of movement for services, freedom of movement for goods, and the freedom of movement of capital.

The freedom of movement of capital within the European Community was fully liberalised in 1990, and together with the provisions of the Treaty of Rome, has evolved into Article 63 of the TFEU.

It states:

1. Within the framework of the provisions set out in this Chapter, all restrictions on the movement of capital between Member States and between Member States and third countries shall be prohibited.
2. Within the framework of the provisions set out in this Chapter, all restrictions on payments between Member States and between Member States and third countries shall be prohibited.

Sound like an unusually broad and sweeping freedom? Yes, of course; there is more.

Article 65.1(b) of the Treaties qualifies this freedom by limiting the free of movement of capital "on grounds of public policy or public security".

So what exactly constitutes a public policy need or public security need? That is difficult to answer, although the article does say that the limit must not be discriminatory to any one individual or group, and it must not merely be disguised as being in the interests of public policy.

We do know from a ruling of the CJEU (European Commission v Italy) that the freedom of movement of capital may simply be restricted by 'over-riding public interest grounds'.

The CJEU expanded on this in European Commission v The Netherlands by noting a condition that the public interest cannot be met by other Community harmonising measures.
While adding that the Member State in question must act with proportionality in mind, the CJEU further stated

...it is in principle for the Member States to decide on the degree of protection which they wish to afford to such legitimate interests and on the way in which that protection is to be achieved. (paragraph 33)

and, significantly,

...the Court acknowledges that the guarantee of a service of general interest, such as universal postal service, may constitute an overriding reason in the general interest capable of justifying an obstacle to the free movement of capital  

2: THE APPLICATION OF EUROPEAN LAW TO CAPITAL CONTROLS IN CYPRUS  

The purpose of the existing capital controls in Cyprus were, initially, to execute a levy on all deposits in the Cypriot financial system, under the terms of a programme agreement between the European authorities, the IMF, and the Cypriot authorities. Under this agreement, Cyprus was required to meet a multi billion euro revenue shortfall via its financial system.

The capital controls first came into place on the 16th of March 2013. After this levy was rejected by the Cypriot Parliament, the capital controls remained in place. As of today, they are anticipated to remain in place until at least the 26th of March 2013. 

In order to determine the present legality of these capital controls under European Law, it is necessary to determine to present justification. 

According to media reports and indications made by Cypriot politicians, the controls exist to prevent a deleterious depletion (or, a 'run') on the reserves of the Cypriot financial institutions until a solution is found to a sovereign funding crisis.

Therefore, in keeping with Article 65.1(b), there is a prima facie urgent public policy need for capital controls. 

Moreover, since this control relates not only to sovereign funding, but the provision of an essential public service in the long term (i.e. an operational banking sector), then the capital controls also appear to satisfy the requirement of protecting a service in the general interest. 

In conclusion, although the capital controls are seriously unpalatable in the short term, it appears unlikely that the limits to the freedom of movement of capital have been met in this instance. 

The only problematic issue for the Cypriot Government may be any further delay of reinstating capital movements leading to a further detrimental impact on the welfare of the Cypriot people, whereby the issue of proportionality will begin to arise.