Eurozone policymakers turned up the heat on Cyprus, showing their willingness to impose losses on creditors and possibly setting up a new, dangerous precedent in the few years since the European sovereign debt crisis erupted. Their shift in risk-tolerance increases the possibility of high-severity tail risks, according to Moody’s, which explains the recent hard-line taken by Eurozone governments as a reflection of domestic pressures, particularly for Germany’s Angela Merkel who faces elections later this year. Even if the latest crisis is averted, Cyprus remains at risk of default and of exiting the Eurozone as the core of its economy, its financial system, will end up decimated. The Eurozone has decided to minimize moral hazard and has chosen Cyprus as its sacrificial lamb. If things don't work out correctly, the Troika may have found its own Lehman Brothers.
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