INSIGHT

Following a period of negative growth, the economy of Cyprus is beginning

to show tentative signs of recovering. This should, however, not lead to

any complacency in dealing with the domestic economic challenges that

emerged from the global crisis. First and foremost, fiscal discipline

needs to be promoted through a different mix of measures which will, among

other things, focus on containing the unproductive expenditures of the

public sector. The implementation of fiscal discipline will help meet the

targets imposed to Cyprus by ECOFIN and will bring in additional benefits through

helping the local economy become more competitive and achieving more

sustainable growth rates.

On its part, the banking sector stands ready to finance the recovery and, as outlined

in the current issue of the “Insight”, contributes positively to the Cypriot

economy in numerous ways. Our member banks have been actively involved in

efforts to set up the framework for issuing covered bonds, as presented in the issue,

which is aimed at increasing available liquidity to further ease lending. In

articles contributed by our collaborators we address efforts to increase competitiveness

in the banking sector, through new practices in IT, customer due diligence and e-

banking. Other articles in this publication deal with the latest developments in

implementing the Consumer Credit Directive, in regulating online gambling, in

crafting MiFID 2 as well as in providing an overview of the European Central

Bank’s price stability policy.

We hope that you find this issue informative and, as always, we welcome your

comments and suggestions.

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1

ASSOCIATION OFCYPRUS BANKS

BULLETINCONTENTS

The contributon of banks

to the Cypriot economy 2

The importance of covered bonds

and the local legislation

developments 4

MiFID II 5

Consumer Protection in the area

of morgage credit 6

Closing the Gaming Gap

Online casino ban 8

SEPA Direct Debits 9

e-Banking:

Yesterday, Today, Tomorrow 10

Marfin Laiki Bank-IT Division:

the trip to Business Excellence 12

CDD “Customer Due Diligence” 14

ECB’s price stability policy 15

AAddddrreessss1E Menandrou Str., 1st Floor,P.O.Box 233631682 Nicosia, Cyprus+357 22664293, +357 22665135info@acb.com.cyPPrriinnttiinnggR.P.M LITHOGRAPHICA LTDDDeessiiggnnCHROMASYN - Alexia Nissiforou chromasn@cytanet.com.cy

ACB Copyright 2008The contents of the Articles representonly the personal views of the authors

ISSUE No 6December 2010

Michael Kammas

Cyprus Banking

INSIGHT

The contribution of banks to the Cypriot economy

Throughout 2009, the financial services sectorremained the single engine of growth in Cyprus’seconomy, as it was the only private economic sectorthat managed to exhibit positive growth. This issignificant, considering that the year 2009 markeda difficult period for Cyprus and indeed it was the firstyear the Cypriot economy underwent a recession since1974, the year of the Turkish invasion. Against abackdrop of GDP decline of 1.7%, the financial servicessector managed to grow by a healthy 4.9%. It can beseen that this financial robustness as well as thebanking sector’s strong liquidity and capital adequacy,are especially important for Cyprus, given the factthat its economy is predominantly service-oriented.The financial services sector itself makes up 9% of theGross Domestic Product, and the other service sectorsmake up an additional 69%.

Lenders and depositors:

In Cyprus where the majority of companies are smalland medium-sized and where access to capital marketsis limited, banks have a key role in the financing ofenterprises, as well as households. According tolatest figures, banks’ share of domestic lending is around73% of total lending, with the rest taken up by co-operative credit institutions (CCIs). A total of 94% ofCypriot citizens have a current account

1.

Throughout the global financial crisis, domestic bankshave clearly shown that they are committed tosupporting their customers and meeting their needfor finance. Following a period of slowdown wherelending growth continued, albeit at single digits, creditexpansion picked up during the first months of 2010.As at September 2010, the annualized growth in lending(to Cyprus residents) amounted to 11%. This rateexceeds real GDP growth as well as inflation, andindicates that banks have a key role in financing theeconomy’s recovery which is beginning to tentativelyemerge.

The banks’ adequate returns were one of the factors thatallowed them to continue providing lending. By beingupholding earnings and moderating their dividendpayout, our members have strengthened their capitalbase. Their robust financial performance also allowedbanks to raise more capital from investors, which in turnallowed them to continue increasing their lending. Itcan therefore be seen that the positive financial results

of the banking sector enabled our members to assisttheir clients to weather the financial crisis throughadditional or rescheduled facilities.

Another factor that contributed to maintaining positivecredit growth rates was the fact that Cypriot financialinstitutions not only retained their deposits, butmanaged to attract foreign deposits throughout theglobal financial crisis, proving that Cyprus is a stablefinancial centre. During the first nine months of2010, total deposits grew by 15%, whereas depositsof foreign residents increased by 34%

2.

In 2009 the largest Cypriot banks joined forces with theEuropean Investment Bank to support the real economyand help counteract the impact of the crisis by easingfunding to Small and Medium Enterprises. The fundsraised through the European Investment Bank were usedto support SMEs as well as small and medium-scaleinfrastructure investments by private or public bodies,through the provision of low cost funding.

The Cypriot banks’ successful expansion to new marketssuch as Russia, Serbia and the Ukraine, enabled themto support their existing clients who have expandedor are looking to also expand to these countries. Thefact that Cypriot banks used their capital to enter newmarkets rather than invest in so-called toxic assets,meant that they not only managed to avoid the massivewrite-downs of banks overseas, but that they emergedfrom the banking crisis unscathed and with a diversifiedearnings base.

In recognition of their commitment to providing qualityservices, Cyprus banks have won a number of awardsfrom prestigious organizations such as the FinancialTimes, Global Finance, World Finance and others.

State budget:

Whereas in the European Union most countries had tospend substantial amounts to rescue their bankingsectors with approximately 13% of the EU’s GDP beingallocated to injections of capital or guarantees

3, Cypriot

banks managed to remain healthy, with average returnon equity of 14.0% in 2009 (2008: 16.4%)

4. This meant

that domestic banks had no need for governmentsubsidies but, on the contrary, were significantcontributors to the state coffers. In 2009, our membershave contributed approximately 7% of the total receipts

Christina PieridesSenior OfficerFinancial Markets

2

1. Flash Eurobarometer 2822. For 2009, total and foreign residents’ deposits both grew by 4%.3. European Commission – European Economy News, Issue 15, October 20094. Figures relate to commercial banks, Source: IMF Cyprus 2010 Article IV Consultation Staff Report, September 2010

3

of the Inland Revenue Department and were some ofthe largest contributors to the social insurancefund.

Shareholders:

The two biggest banks in Cyprus have a shareholderbase of around 80,000 each, and their shareholdersinclude provident funds and insurance funds. As seenabove, banks have succeeded in maintainingsatisfactory profitability throughout the global crisis.The average dividend payout was reduced to around30% (from levels of 50% prior to the crisis), but itstill managed to provide shareholders with welcomecash flow earnings at a time most global portfoliossuffered. The market valuations of banks were hurtas the stock market reacted to the negative economicenvironment; nevertheless, the positive prospects ofthe Cyprus banking sector are evidenced by successfulrounds of capital raising and also by the increasedinterest of foreign investors.

Employees:

Cyprus banks provide employment to a workforce ofover 10,000 in Cyprus alone and generate an increasingnumber of new positions in their overseasundertakings. A high proportion of the work positions

(42% domestically) are filled by university graduates.Job satisfaction is high as evidenced by very low levelsof labor turnover and no significant labor action forthe past years.

General economy - Financial stability:

Banks in Cyprus operate in a strictly regulatedenvironment and abide by all relevant domestic, EU,and Basel regulations. The Cyprus banking sectormaintains a low dependence on the inter-bank marketfor raising liquidity, managed to retain one of thelowest gearing levels in Europe and its capital adequacy(at 12.1%) exceeds the regulatory minimum as wellas the EU average. Foreign observers such as theInternational Monetary Fund have commentedfavorably on the financial stability enjoyed in Cypruswhich is fostered by the banks’ conservative businessmodels, high capital adequacy, comfortable liquidityas well as profitability.

Following a period of economic uncertainty andincreasing unemployment, the years ahead areexpected to be even more challenging. In thisnegative environment, Cyprus banks are poised tomaintain their disciplined growth based on strongfoundations, with a view to continue providingbenefits to their shareholders, clients, employeesas well as to society at large.

4

Over the last few years the covered bonds market hasbeen transformed into an important segment ofEuropean Capital Markets. According to a report bythe European Covered Bonds Council (ECBC), the totaloutstanding volume of issued covered bonds at the endof 2009 was Euro 2,390 bn. Due to the different legaland regulatory frameworks applicable across manynational jurisdictions, there is no universal definitionof a covered bond. Nevertheless, the ECBC sets thefollowing requirements as essential features of a coveredbond: (1) the bond is issued by – or bondholdersotherwise have full recourse to – a credit institutionwhich is subject to public supervision and regulation,(2) the bondholder has a claim against a cover pool offinancial assets in priority to the unsecured creditorsof the credit institution, (3) the credit institution hasthe ongoing obligation to maintain sufficient assets inthe cover pool to satisfy the claims of coveredbondholders at all times, and (4) the obligations of thecredit institution in respect of the cover pool aresupervised by a public or other independent bodies.

Covered bonds are “dual recourse” bonds issued by acredit institution, with priority recourse to a cover poolof assets. The cover assets (collateral) consist of publicsector and mortgage (residential, commercial and ship)loans. What makes them distinct from other types ofbonds is the fact that they are issued on the basis ofa special legal framework that ensures the privilegedposition of bondholders in the event of an issuer default.This privilege has two applications: firstly, the bonddoes not become due immediately after an issuer’sdefault (terms of capital and interest payments ensurethat the bond does not fall due when the issuer entersinto bankruptcy procedures) and secondly, thebondholder has a priority claim on the proceeds ofthe cover assets ahead of unsecured creditors (assetsegregation- ring fencing - ensures that the cover assetswill not be included in the bankruptcy procedure). Mostregulated covered bonds comply with the provisions ofArticle 22(4) of the UCITS Directive and with the CapitalRequirements Directive.

Over the last years, three significant developmentshighlight the importance of covered bonds in today’sfinancial markets. First, covered bonds have becomean important funding source that helps creditinstitutions to diversify their funding structure. Therecent financial crisis highlighted the risk of funding

liquidity and the importance of funding structures.Covered bonds provide credit institutions with acheaper funding source, enhancing their ability tobetter manage asset-liability mismatch and interestrate risk. Second, the European Central Bank (ECB)announced in May 2009 that it would buy 60bn ofEuro denominated covered bonds. The so-calledCovered Bond Purchase Programme (CBPP) aims toease funding conditions for credit institutions,promote the ongoing decline in money market termrates and encourage credit institutions to expandtheir lending activities. Third, the Basel Committeeon Banking Supervision (BCBS) published the newLiquidity Risk Management guidelines, which formpart of the new Basel III capital rules. These guidelinesdefine the minimum liquidity levels and propose newliquidity buffers for credit institutions. The proposedLiquidity Coverage Ratio (stock of unencumbered highquality liquid assets to meet 30 days cash outflowsunder an acute stress scenario) includes a newgroup of liquid assets, called “Level 2” liquid assets,which consist of high quality covered bonds rated AA-or higher (subject to a 15% haircut). This new “Level2” liquid assets category, which can make up to40% of credit institution’s total liquid assets, providescredit institutions with an alternative tool formanaging liquidity risk.

In the last few months there has been significantprogress towards the introduction of covered bondlegislation in Cyprus. The Ministry of Finance, the CentralBank of Cyprus, the Association of Cyprus Banks andother public authorities worked closely and managedto finalize the legal and regulatory framework thatwill enable local credit institutions to issue coveredbonds. The draft “Law on the Issue of Covered Bondsby Approved Institutions with Covered Bond Obligations”(Covered Bonds Law) is expected to be presented toParliament for approval. Additionally, the Central Bankof Cyprus, as the competent authority, has completedthe regulatory framework for the conduct of coveredbond business by Cypriot credit institutions. As anewcomer to the covered bonds industry, the regulatoryframework is expected to be rigorous and strict, andcover assets will consist of public sector loans andmortgage loans (residential, commercial, ship).Nevertheless, Cyprus will soon be joining twenty fourother European jurisdictions that allow local creditinstitutions to conduct covered bonds business.

Michael KronidesSenior OfficerBanking Supervision

The importance of covered bonds and the local legislation developments

5

Cyprus has a strong, solid and stable banking system.The main funding source for Cypriot credit institutionsis customer deposits. The relatively high interestrates paid on customer deposits, compared to theeurozone average, is one of the main factors that hascaused lending interest rates for certain categories ofloans (commercial and mortgage) to increase above theeurozone average. The introduction of covered bondlegislation will enable Cypriot credit institutions to issuecovered bonds and gain access to an alternative fundingsource, probably at a lower cost. In this case, possiblythere will be a downward pressure on deposit interestrates and eventually lending interest rates.

Covered bonds are considered to be among the safestinvestments available, due to the strict legal andregulatory framework surrounding the covered bondbusiness. Evidence shows that during the financialturmoil covered bonds performed considerably betterthan other forms of financial instruments (AssetBacked Securities). They proved to be a relativelystable and low cost funding source for creditinstitutions, with high standards of protection forinvestors. Looking forward, the outlook remainspositive and the covered bond business is expectedto grow further.

MiFID was transposed into nationallegislation of Member States in 2007 withthe purpose to create harmonizedregulation for investment services acrossthe EU. Three years on and we are nowdiscussing its amendment. The need forreview derives from developments in thesector, grey areas in the single marketand problems from the crisis. The aim isto update the existing Directive bytightening the rules that govern stockexchanges, electronic trading systems,investment banks and high-frequencytrading hedge funds.

Proposals include re-categorising someprofessional investors as retail clients –giving them greater regulatory protection– and requiring pre- and post-tradetransparency in non-equity investments. For example,the possible re-categorisation of buy-side firms (suchas large non-financial institutions and localauthorities) from eligible counterparties toprofessional clients will give them greater rights,including in over-the-counter (OTC) trading andinformation about complex products. This will includeconsenting to OTC trading. Regulated buy-side firms(such as managers and private wealth managers) willalso benefit through greater price transparency anda consolidated price ticket, as they may find best priceacross execution venues more easily. In addition,an expanded category of complex products may resultin some professional clients (like commercial and retailbanks) becoming categorised as retail clients, securing

increased protection for them too. Also, buy-side andsell-side firms will have to provide national Regulatorswith more information, including details of the identityof clients involved in transactions.

On the other hand, the recommendations are expectedto increase the compliance cost on investment serviceproviders and may even cause them to loose clients.For example, retail execution-only firms, includingthose offering spread-betting and contracts fordifference (CFDs) will need to collect more informationfrom their clients about complex products. This isexpected to affect companies offering CFDs incurrencies, precious metals and indices to clientsoutside the EU, where competition from non-EU players

MiFID II

Dr. Demetra ValiantiSenior Officer

Legal Affairs

is very big. In addition, structured UCITS and non-UCITSwill be considered as complex financial instruments forretail clients. So, investment firms offering them willneed to perform suitability and appropriateness tests.Also, the removal of professional clients from theautomatic list will mean that investment serviceproviders will have to inquire more into their individualknowledge and experience.

Recommendations are also being made by CESR on issuesincluding bank trading venues known as dark pools,arguing they lack transparency and are open only toinstitutional investors, but not retail investors. It isbelieved by experts that this will make Europe’s equitymarkets less attractive places to trade if strict rules are

imposed on investment bank-owned trading venues inthe proposed set of new regulations.

It is not surprising that some aspects of the newrecommendations are being challenged by investmentservices providers due to concerns that the extra burdenplaced on the industry will reduce the effectivenessof markets. Nobody knows exactly what the newregulations will actually impose. Experts say that MiFIDII will have more impact and more teeth than MiFID Iand many Investment Firms are going to have tothink about their systems and services much more inthe future. Decisions on the changes will be made inthe next six months and the new directive could beintroduced in about two years.

Until recently consumer and mortgage credit in Cypruswere granted by financial institutions according tothe Consumer Credit Act 2001-2009. According to thislegislation, consumer credit and mortgage creditagreements up to €20,000 (CYP 12,000) and €85,000(CYP 50,000) were covered respectively.

In order to comply with the Consumer Credit Directive(2008/48/EC), the Ministry of Commerce, Industryand Tourism (MCIT) in Cyprus prepared a draft bill (1stDraft Bill) for the transposition of the Europeanprovisions into national law. The 1st Draft Bill wasapproved on the 11th November 2010 by the House ofParliament. The endorsed ‘Consumer Credit Law of 2010’replaces the previous Consumer Credit Act 2001-2009.The new law applies to credit agreements (consumer

loans, current accounts with overdraft facilities,credit cards) provided to consumers between €200 and€75,000.

In accordance with the European Directive, the newnational law excludes from its scope mortgage creditagreements. Subsequently, in order to cover housingloans and protect consumers in this area as well, theMCIT proposed the amendment of Consumer Credit Act2001-2009 so that its provisions would continue toapply to housing loans (2nd Draft Bill). On 11 November2010, the House of Parliament approved the 2nd DraftBill extending the coverage of housing credits to€200,000.

Going beyond the provisions of the national legislation,all member banks of the Association of Cyprus Banks(ACB) adopted in 2004 a voluntary Code of Conductfor Housing Loans. The aim of this Code is theenhancement of consumer protection in the area ofhome lending. This is achieved through the provisionof pre-contractual information on housing credit bylenders. This pre-contractual information is provided tocustomers in a European Standardised Information Sheet(ESIS). The ESIS includes (a) general informationregarding housing loans that the bank offers and (b)personalized information on pre-contractual level.The ESIS includes, among other information, the interestrate, the APRC, the duration of the agreement, thenumber and frequency of instalments, terms of earlyrepayment and additional charges as well as informationon internal complaint services.

6

Consumer Protection in the area of mortgage credit

Maria IoannouSenior OfficerConsumers Affairs

Although not legally obliged, financial institutionsin Cyprus also assess their customer’s creditworthinessbefore granting a housing loan. The lender assessesthe loan application based on information providedby the customer and takes into account the customer’sability to repay its obligations. The bank may rejectany application which does not fulfil the requirements.In addition, when assessing their customers’ creditstatus, lenders consult a database – ‘Artemis BankInformation Systems’, which is available to all memberbanks of the Association. This database was createdin compliance with the national legislation on PersonalData Protection and provides information on financialprofiles of businesses and individuals. The servicesprovided by ‘Artemis’ are supervised by the CentralBank of Cyprus. The database offers a complete pictureof the financial behaviour of the customer and in thisway credit risks are mitigated and consumers areprotected from taking loans they cannot eventuallyrepay. Co-operative Credit Institutions – which arenon members of the ACB, have also access to a similarinformation system.

Despite all the above existing safeguards, it appearsthat the EU mortgage credit environment may soonchange. The financial crisis and the fact that cases ofirresponsible lending have been observed in a smallnumber of Member States, led the Commission toconsider the adoption of regulatory measures so asto ensure a level playing field and prevent furtherirresponsible lending and borrowing in the field ofhousing credit. The Commission’s aim is to enhance

consumer confidence and restore the well-functioningand stability of the internal market. This initiativealso goes back to the White Paper on the Integrationof EU Mortgage Credit Markets published in 2007.

The question which arises is whether a forthcomingEU regulation on mortgage credit would be trulybeneficial at this time of financial instability. LikeCyprus, other Member States have also adoptednational measures in this area or have extended thescope of Consumer Credit Directive to cover alsomortgage credit agreements (i.e Austria, Germanyand Denmark). One could therefore argue that theaddition or overlapping of EU legislation onresponsible lending could be burdensome for nationalregulators, the banking industry and ultimately forthe consumers. As most member states have alreadyadopted measures in this field or are in the processof endorsing regulations, a forthcoming Europeanlegislation could create inefficiencies andunnecessary costs, especially at a time when Europeanmarkets are still trying to recover from the globaleconomic crisis. This would subsequently overweighthe overall consumer benefit.

It is expected however that the Commission willcomplete all constructive dialogues with stakeholdersinvolved as well as conclude the appropriate impactassessment before it finally proceeds with theenactment of any new regulatory measures in thisarea. It is anticipated that the new EU proposal willbe ready at the beginning of 2011.

7

In an attempt to close the legal gap in the regulationof online gaming in Cyprus, the Cyprus betting andgambling environment is undergoing a major overhaul. At present in Cyprus, there is no regulation for onlinebetting and gambling, as the existing betting laws donot include any prohibitions for the provision of suchservices, thus a posteriori granting the provision ofthese online gaming services, a ‘“quasi-legal status”.

Draft Law on BettingOne of the key outcomes of the efforts of the CyprusGovernment to regulate online betting and gamblingis the creation of a Draft Law on Betting (the ‘DraftLaw’). The Draft Law has been submitted to theParliament for discussion and also going to besubmitted to the European Commission, which willgive its input on E.U. compliance issues.

The main objectives of the Cyprus Government inrelation to the Draft Law, are to discourage addictions,protect consumers and prevent crime.

The Draft Law intends to formally regulate internetbetting except horse racing betting, for which aseparate legislation is to be prepared.

More specifically, the Draft Law legalizes electronicbetting which includes online betting on sports butbans online casino gambling, online roulette games,online poker games, slot machines and spread betting.

National Betting AuthorityThe Draft Law provides for a National Betting Authorityto be established in order to supervise the provisionand licensing of betting services in Cyprus.

Closing the Gaming Gap - Online casino ban

Elena FrixouSenior Officer

Legal Affairs

8

Licensing RequirementsProviders of betting services must apply for an approvalfrom the National Betting Authority. Eligible applicantsmust be companies fulfilling the following requirements:(i) they are limited by shares, incorporated in Cyprus

or abroad but have their headquarters in Cyprus,(ii) they have as their sole object conducting collective

gambling,(iii) they have an issued and paid-up capital of at least

€500,000,(iv) their officers and ultimate beneficial owners are

over the age of 25 and have not been convicted forcrimes as defined in the Draft Law, additionallytheir professional related expertise and financialviability shall be examined,

(v) where a licence for electronic betting is appliedcertain technical and computerization specificationsneed to be fulfilled as specified in Directives issuedby the National Betting Authority.

Security and protectionGreat emphasis is given in the Draft Law in relation torequirements aiming to protect the players and preventany form of security violation and other adverse effectson the players. Hence it is provided that players mustbe over the age of 18, must officially register with thelicensed provider of betting services and hold a relevantaccount with the latter.

Additionally the licensed providers must maintain a webpage showing their company's name, address and licencedetails, together with links to web pages of organisationsproviding help against gambling addiction. Furthermorethey must maintain players' accounts and credit allamounts due to the registered player.

The licensed providers will also undergo regular checksby the National Betting Authority and submit annualfinancial accounts to the latter.

Furthermore the Draft Law prohibitsthe licensed provider to accept cashpayment by the players. Theacceptable means of payment shallbe credit cards, debit cards,electronic transfers, cheques andother means approved by theNational Betting Authority.

Finally technical provisions areincluded which impose certainobligations on internet serviceproviders and financial institutions.

These obligations relate to the ‘policing’ of the correctimplementation of the Draft Law. The financialinstitutions in Cyprus, which otherwise do not opposethe general objectives of the Draft Law, have expressedtheir technical concerns in relation to the impositionof disproportional obligations and penalization on them,such as the blocking of transfers towards online casinos.

TaxationThe Draft Law does not specify a tax rate for theregulated betting services, however the prevailingpercentage in high level discussions is 10 percent ofamounts staked.

E.U Compliance IssuesThe Cyprus Government shall aim to overcome anyproblems of compliance with E.U principles such as freemovement of services, by arguing that the Draft Lawcontains justified restrictions to the free provision ofservices. These restrictions shall include imperativerequirements in the general interest (ECJ Gambelli 2003),such as the need for consumer protection, the preventionof fraud or the need to preserve public order.

Furthermore, great precedential value supporting theabove, is found in recent European Court of Justice cases(June 2010) upholding the Dutch Gambling restrictions.The ECJ in these cases, dealing a blow to the multi-billion euro online betting industry, ruled that nationalregulations on games of chance are compatible with EUlaw when they are enacted to mitigate addiction andcombat fraud.

In conclusion, discussions in Parliament for the approvalof the Draft Law are planned to resume before the endof this year, approximately this is the same period thatthe Government is expecting the Draft Law to become‘EC-Proof’.

9

Introduction

The SEPA Direct Debits Scheme was launched inEurope in November 2009 in order to create, forthe first time, a payment instrument that canbe used for both domestic and cross-bordercollections, throughout the 32 SEPA countries(27 member sates plus Switzerland, Norway,Iceland, Lichtenstein and Monaco). As with theother SEPA payment schemes, SEPA Direct Debitswas developed by the European Payments Council(EPC), which is the European decision-makingand coordinating body in relation to payments.The Association of Cyprus Banks is a member ofthe EPC and participates in EPC’s Plenary meetings.

Specific features and characteristicsof the SEPA Direct Debits Scheme

The SEPA Direct Debits Scheme (SDD) is based on thefollowing concept: “I am a utility company ororganization (biller), based in the SEPA-zone and Irequest money from a consumer or a business (payer)with their prior approval, in order to credit the moneyto my account”. The payer and the biller may belocated anywhere in the SEPA-zone and must eachhold an account with a payment services provider(bank), located anywhere in the SEPA-zone. The bankaccounts held, may be in euro or in any other SEPAcurrency. However the transfer of funds betweenthe payer’s bank and the biller’s bank must alwaystake place in euro.

SDD may be used for single (one-off), or recurrentDirect Debit collections and the amount of the paymentis not limited. It also allows payers a “no-questions-asked” refund right, during the eight weeks followingthe debiting of the payer’s account. In other words,during this time, any funds collected by SDD may becredited back to the payer’s account, upon request.In the event of unauthorized Direct Debit collections,the payer’s right to a refund extends to 13 months.

The SEPA Direct Debits Scheme allows the biller to collectfunds from a payer’s account provided that a signedmandate has been granted from the payer to thebiller. The mandate can be issued in paper form, orelectronically (e-mandate). E-mandate offers furtheradvantages to payers, since they avoid the inconvenienceof having to print, sign and mail a paper mandate, orhaving to visit the biller’s branch or their bank.

The Cypriot case

It should be noted that for the time-being, Cyprusdoes not have a domestic Direct Debits Scheme. Alldomestic Direct Debit transactions are effected bybook entries between the accounts of the payer andthe biller, held at every bank. Nevertheless, 9 memberbanks of the Association that offer Direct Debit services(and 2 non member banks), have adhered to SDD onthe 1st of November 2010. Although, domestic DirectDebits will continue (for the time) to be processedthrough the abovementioned book-entries, in theevent of a request concerning a cross-border DirectDebits payment, this will be routed through SDD.

SEPA Direct Debits Reachability requirement

According to a provision of EU Regulation 924/2009(which came into effect in November 2009 andreplaced “EU Regulation 2560/2001 on cross-borderpayments in euro”), every bank in the euro area mustbe reachable for cross-border Direct Debits by the1st of November 2010. By being “reachable”practically means that any customer who keeps anaccount with a bank within the euro-zone, can nowrequest his bank to effect cross-border paymentsby SEPA Direct Debits, to any utility company ororganization located in the euro-zone. For example,through a bank account held in Cyprus, a consumerwill be able to pay electricity or phone bills, for ahouse owned in Athens or in Paris.

It should be clarified that although the banks’adherence to SDD was up to now adopted on a

SEPA Direct Debits

Marios NicolaouSenior Officer

Payment Systems

voluntary basis, the reachability provision of Regulation924 in a way “forces” banks to offer SDD cross-borderservices, if requested by their customers.

SEPA Migration end-date

According to EU statistics (gathered in August 2010),although 95% of European Banks have adhered toSEPA Credit Transfers, only 9,3% of the total CreditTransfer’s volume was effected through SEPA. Theresults of SEPA Direct Debits are even moredisappointing, since only 1% of the total Direct Debitswas processed through SEPA. According to theEuropean Central Bank, the reasons for the low SEPAusage rate are, the low participation of the publicadministrations and the low interest shown so farby users (i.e businesses, utility companies andconsumers).

The SDD Reachability Requirement provided inRegulation 924/2009, is a good step towards theincrease of SEPA usage, but it is not enough. Anotherway of increasing the use of SEPA is through theimplementation of a SEPA Migration end-date. i.e. adate where all domestic payments schemes will beabolished and SEPA will be used throughout Europe, forboth domestic and cross-border payments. This can onlybe achieved through an EU Regulation, which will seta compulsory end date for SEPA Migration.

Having the above in mind, and following a persistentlobbying campaign by the EPC, the EU is expected toissue a Regulation for a “SEPA Migration end-date”,at the beginning of 2011. Although the Regulation hasnot been finalised yet, a draft proposal sets two differentend-dates for SEPA migration: 12 months after the issueof the Regulation for Credit Transfers and 24 monthsfor Direct Debits.

10

The PastThe first major technological innovation in e-bankingwas the ATM, which was introduced approximately 30years ago, and up until the end of the 80’s this wasreally the only self-service (or alternative) channelavailable. It was not until the early 90’s that Bankstook a significant step forward, by taking advantageof the most important innovation of the last 30years, the Internet.

Following the introduction of the Internet, most Banksrealized that they had to evolve beyond the initial stageof web presence and establish transactional portals,through which clients could perform their day-to-daybanking operations. Back then, Banking was one ofthe very few business sectors willing to venture intoe-business. Capitalizing on their reliable infrastructure,Banks began to offer e-banking services and eventuallythey were able to establish a whole new business linein the Banking field. It is generally accepted that e-banking solutions have enhanced the quality of Bankservices, raised customer awareness, as well as increasedthe sales of existing and new products. Nevertheless,it was only recently that e-banking was consideredby many Banks to be the “icing on the cake".

The presentCustomers choose channels and services that offer idealsolutions and help them achieve their desired goal inthe quickest and most efficient manner. They won’tchoose the branch simply because they get“personalized service” unless seeing a human face is

a necessary element of that specific solution, and eventhen, increasingly under protest because of the manyrestrictions our modern lifestyle places on our time.On the other hand, they won’t always choose e-bankingjust because of its great functionality, advanced toolsor state-of-the-art technology in place. Customerssimply want a great banking service, tailored to theirneeds and offering the solutions they need in atimeframe that works for them.

These days, e-banking is considered to be core bankingbusiness. As most technology-driven tools, e-bankinghas been standardized and made more uniform acrossthe market. Today, the key in e-banking is to be ableto offer services that are simple yet powerful, user-friendly, time and money-saving, stable and reliable.These attributes allow for a significant increase in Bankrevenues, as well as a reduction in costs.

In the past 10 years, Banks have been offering awide range of self-service channels and services aimingto simultaneously achieve operational efficiency andservice quality. It is generally believed that e-bankingprovides at least the following benefits to Banks:

ñ Convenience to customersñ Stronger relationship between bank and customerñ Elimination of geographical and political barriersñ Possibility to build efficient loyalty programsñ Cost reduction in both services and administrationñ Different and arguably fewer barriers to entryñ Standardization in transaction processing

Christos PapadopoulosManagerNew Channels DivisionAlpha Bank Cyprus Ltd

e-Banking: Yesterday, Today, Tomorrow

11

ñ Direct channels for marketing campaigns andadvertisement

ñ Delivery of new products and services.

In Cyprus, e-banking has made huge steps forwardby utilizing technology, infrastructure and localknowledge. Cypriot Banks currently offer high-qualitye-banking solutions that can be easily compared tosolutions offered by larger and richer Banks both inEurope and the Americas.

Acceptance of e-banking among Cypriot bank clientsis also quite remarkable. According to statistics, e-banking usage has tripled during the last 3 yearswhile the active e-banking users have heavilyincreased their day-to-day electronic interaction withthe Bank. Electronic financial transactions (EFT) havealso increased dramatically. It is generally believedthat in Cyprus, e-banking processes approximately50-70 percent of the Banks’ total transaction volumes,which makes for staggering monetary EFT volumes.

The broad acceptance of Cypriot e-banking leads tofurther investment and expansion. Modern technologies,new approaches, new electronic channels, new securityinfrastructures, new organizational structures, andongoing research are combined to achieve e-bankingexcellence. The aim is to prepare for the future. Preparefor the next generation of clients and the nextgeneration of banking practice.

The futureBanking is a sector that undergoes rapid change andconstant transformation. Hence, what we are facingtoday in the banking sector is completely different fromwhat banks were facing in the past. Similarly, the banksof tomorrow will be completely different from today’s.

This is unavoidable since a new generation of clientshas come knocking on banks’ doors. They are in theage group of 18 to 30 year olds, a group often calledGeneration Y. Gen-Y comprises approximately 17%of the world’s population and it is totally differentfrom their predecessors.

In terms of their Banking behavior, Gen-Y clientsare financial novices since they are generally unawareof the various banking procedures and processes.However, they are very good card users with excellente-banking adoption capabilities. They have noproblem in spending money even if their primarysource is from loans and credit cards. They are well-connected and therefore able to easily cross-checkinformation, terms and conditions, and pricing. Theyare willing to try new products and services, but theyare also demanding and have high expectations fromtheir Banks.

Banking with Gen-Y marks a shift from Quantitativeto Qualitative based banking models. Special focushas to be placed on customer experience, relationshipbanking and risk management, business intelligence,client insights, and tailor-made propositions.

No matter how banking will change in the near future,it is very likely that e-banking is here to stay for atleast another decade. As a tool of modern living andas a lifestyle aid, it is absolutely indispensable.Judging by its current popularity and rate ofpenetration, e-banking will increase more in scopeand in usage. Banks are bound to expand andenhance their alternative channels in a way thatdelivery and excellence are combined in an agile,adoptable, and efficient model.

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Marfin Laiki Bank-IT Division: the trip to Business ExcellenceWith a mission “To support the strategic goals of the Groupin Cyprus and abroad through effective technologicalsolutions”, the IT Division of Marfin Laiki Banksystematically ensures the efficient and effective use oftechnology to meet the Group’s business needs. Its recentattainment of the ‘EFQM: Recognised for Excellence inEurope – 4 stars’ award makes it the first IT organisationin Cyprus to be awarded by the EFQM organisation andplaces it in the list of a handful of organisations withinthe Greek and Cyprus market to have attained 4 stars.The IT Division started off in 1977 under the name‘Popular Bank Computers’ with the main aim to automatecertain business processes of the bank. Since then, ithas seen dramatic changes both in terms of its structureand responsibilities. It has successfully and systematicallysupported the front and back office operations of theBank through development /procurement, deploymentand support of information systems (e.g. businesstransactional systems, knowledge systems, managementreporting systems) both in Cyprus and overseas. Overthe last decade, having provided stable support to theGroup’s business operations and needs, the IT Division’semphasis has been increasingly shifting towards ITGovernance and Quality Management. A key milestoneon this has been the decision in October 2001 to adoptthe EFQM Business Excellence Model as a provenframework for effecting continuous improvement. The EFQM Excellence Model is a non-prescriptiveassessment framework that can be used to assess anorganisation's progress towards business excellence.With implementations in over 30,000 organisationsall over the world, the EFQM Excellence Model isconsidered to be one of the most widely applied models.Its recognition scheme provides a way of benchmarkingwith other organisations and consists of the followinglevels of excellence:ñ Committed to Excellenceñ Recognised for Excellence: 3,4 and 5 starsñ EFQM Excellence AwardThe first practical use of the EFQM Excellence modelin the IT Division started in June 2002 with a self-assessment. From this, some 25 points of improvementwere identified which were updated during the secondassessment (May 2003) and laid the foundations forattaining the ‘EFQM: Committed to Excellence’ Award inJanuary 2004. The commitment to the EFQM Frameworkhas yielded a multitude of approaches for improvingvarious aspects of the division which improved theKey Performance Indicators (KPIs) and the staff andcustomer satisfaction. A third assessment in 2006 furtherconfirmed the level of commitment of the IT Divisiontowards excellence which led to the attainment of the‘Recognised for Excellence in Europe – 4 stars’ award inSeptember 2010.

The adoption of the EFQM Excellence model led to thefollowing improvement projects/schemes:Technical Ladder: Enables the advancement of peoplebased on their technical knowledge and skills ratherthan their management skills.Professional Certificates / Qualifications: The attainmentof relevant academic qualifications (e.g. Degree inInformation Technology) and professional certificates(e.g. MCSE, CCDP) is promoted through financial or other(e.g. study leave) assistance.Work Packages: Through this scheme selected IT specialistsare empowered to undertake the management of specificimportant infrastructure projects as “Work PackageLeaders”. Work Package Leaders are given the necessaryresources, guidance and support, and their performanceis rewarded appropriately. This scheme enables thepersonnel to enrich their organisation skills and knowledge.HR Appraisal System: The underlying concept of theGroup’s HR Appraisal system is based on the holisticperformance assessment of the employee usingobjective results (e.g. derived from Balanced ScorecardKPIs) and behaviour. In other words, the HRPerformance Assessment system considers “WHAT”(results) is achieved by the employee and “HOW”(behaviour) this is achieved. The Appraisal Systemis linked to the various Reward Schemes of the Banksuch as the Cash Bonus Scheme, Stock Options,Promotions, Salary Reviews, and the IT AwardsManagement System. According to this System,additional IT awards are given to people withexceptional contribution to the implementation of ITStrategic Goals. For example, awards are given for thebest idea of the year, exceptional professionalbehaviour, quality of work, innovation, exceptionalcontribution to projects etc.Several procedures and controls have been entrenchedin the awards management processes to ensure fairnessand transparency such as:ñ Self-nomination, which gives the opportunity to the

candidate to ‘apply’ and justify his/her applicationfor an award such as promotion

ñ Feedback at several levels (e.g. team leader, manager,management team).

IdeaS Scheme: This is a staff suggestion scheme. Itis an established method to involve the whole ITworkforce in identifying opportunities for improvementand empowering them to take the necessary actionsto make changes.Staff/Customer Satisfaction Surveys: The importance ofmonitoring staff/customer perception on a systematicbasis was identified. This was achieved throughappropriate surveys conducted periodically. The Surveyresults are used to trigger improvement actions.Service Level Agreements (SLAs): In order to ensure

Maria Drakos DirectorInformationTechnology Marfin PopularBank Public Co Ltd.

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common understanding about “service”, continuityof service and quality of service, SLAs are set up,negotiated and signed between IT and the variousbusiness units of the Group. SLA aims at puttingthe service provided by IT into a more formal andmeasurable framework.The above systems/schemes constitute a small glimpseof the initiatives taken for improving the efficiency andeffectiveness of the IT services provided to the Group.The results as presented in next page talk by themselves! However, the EFQM programme is a trip to business

excellence, not a project. In line with the Group’sbasic philosophy, the IT Division will continue tostrive to achieve even better results for the benefitof all its stakeholders: customers, employees, vendorsand shareholders. Some interesting Performance StatisticsThe figures below present trends from the Staffand Customer Surveys (figures 1 and 2) and KPIsassociated with two of our most critical processes:Problem Management and Request Management(Figures 3, 4 and 5).

Figure 1 – Staff Survey: The percent staff satisfaction per dimension is presented. Positive trends existfor all dimensions.

Figure 2 – Customer Survey: The percent Customersatisfaction for IT support, benchmarked againstGartner’s average from organisations of similar sizeand same industry to ours.

Figure 3 – Problem Mgt: The percent resolution ofproblems within Service Level Agreements (SLAs) isdisplayed. The target of 95% has been agreed withcustomers.

Figure 4 – Service Desk: %Abandoned Calls: Theperformance of Service Desk as expressed in ‘%Abandoned Call’s is presented. Benchmark has beenprovided byGartner. Targets are agreed with customerthrough SLAs.

Figure 5 – Requests for Office Equipment: The percentcompletion of requests for office equipment (e.g.PC, printer) within SLAs is displayed. The Target isagreed with customer through SLAs.

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The high quality and variety of financial services offeredin Cyprus along with the island’s premium location andtax planning opportunities (low corporation tax, numeroustax treaties and experience in tax advice) makes Cyprusan attractive and promising financial center to foreigninvestors.

The Financial Services Industry in Cyprus comprises ofFinancial Institutions, Consultants, Tax Advisors,Accounting Firms, Audit Firms and Lawyers. Businessis being introduced into the island by all of the aboveparties of the Financial Services Industry and thebenefits are shared by everybody, including thegovernment. Therefore, it is to the benefit of everyoneto maintain a robust financial system and a goodreputation with regards to confidentiality and approachto money laundering issues.

Inevitably, on the one side there is the business sectorwhich is vulnerable to money laundering in its effortsto enhance its activities and on the other side thereare the Regulators / the governments who are imposingstrict rules and regulations in order to minimize the riskof receiving income from ‘hidden’ illegal money andmaintain a good reputation with regards toconfidentiality and anti-money laundering issues.The financial sector stands in the middle.

Part of the existing regulation with regards to measuresfor the avoidance of money laundering, is the conceptof carrying out Customer Due Diligence (CDD) prior toestablishing a business relationship. Imagine the hasslethat customers should go through, let alone the cost,if CDD should be carried out repeatedly by all of theabove parties of the financial services chain. That wasthe reasoning of the regulator when the concept of thirdparty reliance for CDD was introduced. Specifically inthe Official Journal of the European Union it is statedthat “In order to avoid repeated customer identificationprocedures, leading to delays and inefficiency inbusiness, it is appropriate, subject to suitablesafeguards, to allow customers to be introduced whoseidentification has been carried out elsewhere.”

While legislation allows reliance on third parties to carryout the CDD procedure, the ultimate responsibilityremains with the financial institution. The third partyor introducer, also retains his own responsibility for allthe requirements of the relevant EU Directive to theextent that the third party has a relationship with thecustomer that is covered by the said Directive.

Regarding the regulation in Cyprus on this matter,third party reliance for CDD is specifically restrictedonly to third parties (credit or financial institutionsor auditors or independent legal professionals or trustand company service providers) that fulfill thefollowing conditions:1. they are situated in the European Economic Area,and who:

i. are subject to mandatory professional registration,recognised by law and

ii. are subject to supervision with regards to theircompliance with the requirements of the EuropeanUnion Directive, or

2. they are operating in countries outside the EuropeanEconomic Area which, in accordance with a decision ofthe Advisory Authority for Combating Money Launderingand Terrorist Financing, have been determined thatthey apply procedures and measures for the preventionof money laundering and terrorist financing equivalentto those laid down in the European Union Directive andmeet the requirements (i) and (ii) above.Moreover, the financial institutions are obliged, beforeaccepting the customer identification data verifiedby the said third party, to ascertain and evaluate thesystems and procedures applied by the third party forthe prevention of money laundering and terrorist

CDD ‘Customer Due Diligence’ - Reliance on third parties

Maria Aristidou,Bank AML OfficerAlpha BankCyprus Ltd

financing. This assessment must be performed bythe financial institution’s Anti-Money LaunderingOfficer (AML officer). The AML officer gives his/herapproval for the commencement of the cooperationwith the third party and the acceptance ofidentification data verified by the third party at theestablishment of a business relationship withcustomers.

Effectively, these restrictions leave out of the gameall the businesses that offer fiduciary services and arenot subject to supervision with regards to moneylaundering. In addition they impose an unfair burdenon the AML Officer to assess the processes and systemsof third parties which otherwise should have beenassessed by the stipulated supervisory bodies.

The gap has been recognised by the Regulator and arelevant Bill (first drafted a couple of years ago) hasbeen discussed recently. After all, it is the obligationof all Member States to ensure that trust and companyservice providers are licensed in order to operate theirbusiness legally.

The Bill includes, among other provisions, a provisionfor the appointment of a supervisory body which

will undertake the role of monitoring the businessesmentioned above which are not being currentlymonitored with regards to money laundering. Thelatest Bill presents the Cyprus Securities andExchange Commission as being the proposedRegulator in the place of The Central Bank of Cypruswhich was the proposed regulator in the initial draftof the Bill. It is unquestionable that the Law, willbe to the benefit of all and will enhance the flowof more business into the robust financial systemof Cyprus.

In addition, the Regulators must consider shifting theresponsibility for the assessment and monitoring ofthe systems and procedures of ‘third parties’ from theAML officers to the stipulated supervisory bodies.

A major issue will still remain unresolved regarding themonitoring of business routed from countries which donot impose supervision with regards to moneylaundering. Maybe the solution is through outsourcingCDD via contractual relationships between the financialinstitutions and the persons not covered by theDirective. However, this remains to be seen, as morediscussions about the issue are expected to takeplace in the near future.

ECB’s price stability policy: The impact on interest rates

Inflation and deflation are economic indicators thatcould have negative consequences for the economy.In broad terms, inflation is defined as the ‘increase’in the prices of goods/ services over an extendedperiod, which consequently leads to a decline in thevalue of money, and thus its purchasing power.Deflation is often defined as the opposite to inflation,explicitly as a situation in which the overall price levelfalls over an extended period. Economic theorysuggests that when there is no inflation and/ordeflation, there is price stability if, on average, pricesstay stable over time.

With this in mind, the ‘price stability’ policy of TheEuropean Central Bank (ECB) refers to the level ofprices in the European economy, avoiding bothprolonged inflation and/or deflation. This policycontributes to achieving high economic activity andemployment by improving the ‘transparency’ ofthis price mechanism. The ECB has defined price

stability as “a year-on-year increase in theHarmonised Consumer Price Index for the euro-area of below 2%”. The ECB has also clarified that,in the pursuit of price stability in the euro-area, itaims to maintain inflation rates below, but close to,2% over the medium-term. In this policy, the ECBalso demonstrates a commitment to provide anadequate margin to avoid deflation risks. Havingsuch a safety margin against deflation is importantsince nominal interest rates cannot fall belowzero. In a deflationary environment the ECB’smonetary policy may thus not be able to stimulateaggregate demand by using its interest rateinstrument (ECB, 2010). It is widely acknowledgedin the economic literature that there are substantialdisadvantages and costs related to inflation anddeflation. Thus, there are several ways in whichthe ECB’s price stability helps to achieve high levelsof economic prosperity. In this article, we will discussthe key ones, mainly associated with interest rates.

Dr George MountisGroup M&A and

StrategyBank of Cyprus

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If European banking institutions could be confidentthat prices would remain stable in the future, theywould not then demand an additional return (e.g. ‘inflationrisk premium’) to compensate them for the inflationrisks associated with holding long-term nominal assets.By reducing such a ‘risk premium’, thereby bringing aboutlower nominal interest rates, the ECB’s price stabilitycontributes to the efficiency with which the capital marketsallocate resources, and therefore increases the incentivesto invest. Additionally, a high nominal interest rate ona bank deposit may therefore simply reflect high inflationexpectations and does not necessarily signal that the realreturn is expected to be high as well.

Furthermore, unexpected revaluations of bank assets,due to unanticipated changes in inflation, couldundermine the soundness of a bank’s balance sheet. Forinstance, assume that a bank provides long-term fixedinterest rate loans which are financed by short-termtime deposits. If there is an unexpected shift to highinflation, this will imply a fall in the real asset value.Consequently, the bank may face solvency problems thatcould cause undesirable “chain effects”. The ECB bymaintaining its price stability policy, ensures thatinflationary or deflationary shocks to the real value ofnominal assets are avoided and financial stability istherefore enhanced.

A short-term change in money market interest rates,induced by the ECB, sets a number of mechanisms in

motion, largely because this change has an impact onspending and saving decisions taken by households andinstitutions. Higher interest rates will, all things beingequal, make it less attractive to take out loans inorder to finance consumption or investment. Theyalso make it more attractive for households to ‘save’their current income rather than spend it. Importantly,such changes in interest rates may also affect the supplyof credit. All these factors influence developments inreal economic variables, such as output. This is wherethe ECB has the power to determine the interest ratesat which credit institutions obtain liquidity from theeuro-system. Thus, the ECB ‘indirectly’ influences interestrates throughout the euro-area economy, including theinterest rates that credit institutions charge customersfor loans, and those that savers earn on deposits.

Economic literature suggests that in the long run,economies with lower and stable inflation appear onaverage to grow more rapidly in real terms. As statedpreviously, the ECB can determine the short-termnominal interest rates which banks have to pay whenobtaining credit from the Bank. As the ECB is the onlyinstitution in the euro-zone which can issue banknotes(and bank reserves), the Bank can therefore determinethe policy rates, e.g. the short-term nominal interestrates on loans given to the banks. Therefore, the ECB’sexpectations with regard to the future developmentof policy rates in turn influence a wide range of longer-term bank and market interest rates.

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The Cyprus Banking Insight is a publication of the Association of Cyprus Banks (ACB). No part of this publication may bereproduced without the permeission of the ACB. The views and opinions expressed by the authors in the publication areprovided in the authors’ personal capacities and are their sole responsibility.

Furthermore the views and opinions expressed are not necessarily those of the ACB and its Board of Directors and must neitherbe regarded as constituting advice on any matter whatsover, nor are interpeted as such.