A rescue program agreed for Cyprus will serve as a model for dealing with future euro zone banking crises and other countries will have to restructure their banking sectors, the head of the region's finance ministers said.
The approach would mark a radical departure for euro zone policy after three years of crisis in which taxpayers across the region have effectively been on the hook for resolving problem banks and indebted governments via multiple rescue programs.
"What we've done last night is what I call pushing back the risks," Dutch Finance Minister Jeroen Dijsselbloem, who heads the Eurogroup of euro zone finance ministers, told Reuters and the Financial Times on Monday, hours after the deal was struck.
"If there is a risk in a bank, our first question should be 'Okay, what are you in the bank going to do about that? What can you do to recapitalize yourself?'. If the bank can't do it, then we'll talk to the shareholders and the bondholders, we'll ask them to contribute in recapitalizing the bank, and if necessary the uninsured deposit holders," he said.
After 12 hours of talks with the EU and IMF, Cyprus agreed to shut down its second largest bank, with insured deposits - those below 100,000 euros - moved to the Bank of Cyprus, the country's largest lender. Uninsured deposits, those accounts with more than 100,000 euros, face losses of 4.2 billion euros.
Uninsured depositors in the Bank of Cyprus will have their accounts frozen while the bank is restructured and recapitalized. Any capital that is needed to strengthen the bank will be drawn from accounts above 100,000 euros.
The agreement is what is known as a "bail-in", with shareholders and bondholders in banks forced to bear the costs of the restructuring first, followed by uninsured depositors. Under EU rules, deposits up to 100,000 euros are guaranteed.
Three years of governments and taxpayers bearing the costs and providing the back stop, had to stop, Dijsselbloem said. Recent financial market calm meant now was the time to make the change, although he conceded there was some concern that it could unsettle markets again.
"If we want to have a healthy, sound financial sector, the only way is to say, 'Look, there where you take on the risks, you must deal with them, and if you can't deal with them, then you shouldn't have taken them on,'" he said.
"The consequences may be that it's the end of story, and that is an approach that I think, now that we are out of the heat of the crisis, we should take."
After early gains on the back of the Cyprus deal, Dijsselbloem's comments knocked European shares into the red while safe haven German Bund futures rose.
"Now that the crisis is fading out, I think we need to dare a little more in dealing with this," he said.
If adopted by the euro zone, that daring could also sound a death knell for a plan hatched nine months ago when the euro zone debt crisis was threatening to blow the currency area apart.
Then, euro zone leaders agreed the bloc's future rescue fund should be allowed to recapitalize banks directly, thereby breaking the debilitating link between teetering banks and weak governments forced to bail them out. That may now never happen.
Asked what the new approach meant for euro zone countries with highly leveraged banking sectors, such as Luxembourg and Malta, and for other countries with banking problems such as Slovenia, Dijsselbloem said they would have to shrink banks down.
"It means deal with it before you get in trouble. Strengthen your banks, fix your balance sheets and realize that if a bank gets in trouble, the response will no longer automatically be that we'll come and take away your problem. We're going to push them back. That's the first response we need. Push them back. You deal with them."
The marked change in attitude, which Dijsselbloem agreed was a shift in strategy for EU policymakers, has consequences for how banks are recapitalized and for how financial markets react.
One of the major steps the euro zone has taken over the past three years has been to set up a rescue mechanism with guarantees and paid in capital totaling up to 700 billion euros - the European Stability Mechanism.
The expectation was that the ESM would be able to directly recapitalize euro zone banks that run into trouble from mid-2014, once the European Central Bank has full oversight of all the region's banks.
The goal of the ESM and direct recapitalization was to break the so-called "doom loop" between indebted governments and their banking sectors. Now, Dijsselbloem says the aim is for the ESM never to have to be used.
"We should aim at a situation where we will never need to even consider direct recapitalization," he said.
"If we have even more instruments in terms of bail-in and how far we can go on bail-in, the need for direct recap will become smaller and smaller.
"I think the approach needs to be, let's deal with the banks within the banks first, before looking at public money or any other instrument coming from the public side. Banks should basically be able to save themselves, or at least restructure or recapitalize themselves as far as possible."
Dijsselbloem, 46, who took over as Eurogroup president only in January, said he had discussed the new approach with financial market participants and said he expected that they would adjust to the new regime over time.
"Now we're going down the bail-in track and I'm pretty confident that the markets will see this as a sensible, very concentrated and direct approach instead of a more general approach," he said.
"It will force all financial institutions, as well as investors, to think about the risks they are taking on because they will now have to realize that it may also hurt them. The risks might come towards them."
(Writing by Luke Baker, editing by Mike Peacock)