CYPRUS HAS become the fifth euro zone country to seek an international bailout amid mounting economic problems and fresh challenges for its banks after a credit-rating agency downgrade.

Bowing to euro zone pressure, the cash-strapped government of Demetris Christofias said it had asked for help, just days before a deadline to recapitalise one of the country’s largest banks.

“The purpose of the required assistance is to contain the risks to the Cypriot economy, notably those arising from the negative spillover effects through its financial sector, due to its large exposure in the Greek economy,” the government said yesterday.

Its finance minister, Vassos Shiarly, said Cyprus will seek enough money from European rescue funds to cover fiscal needs as well as a bank recapitalisation, determining the amount it requires in coming weeks.

Cyprus, which takes over the EU rotating presidency on July 1st, has been locked out of capital markets for more than a year and had been seeking further help from Russia, which has already loaned it €2.5 billion.

Britain had considered making a bilateral loan to Cyprus because of its close ties to the country and in view of its strategically important military base there, but decided not to.

Some Cypriot economists say the country could need as much as €10 billion to cover the banking sector’s exposure to Greek private sector debt and other needs as well as the capitalisation requirements of Cyprus Popular Bank, the country’s second-biggest lender. The government has more than €2 billion in debt due next year.

“This is long overdue,” said Stelios Platis, a Cypriot economist. “The delay going to the EFSF was damaging for Cyprus and the banking sector . . . We have to contain the spillover effect from Greece.”

Fitch’s decision to cut Cyprus’s sovereign rating to “junk” status yesterday meant the country lost its investment grade status with all three of the largest rating agencies, highlighting the government’s narrowing options.

Euro zone officials have made clear that a Cypriot request for assistance would almost certainly have to mean the Christofias government agreeing to a wide-ranging package of reforms for the economy.

Cyprus had wanted aid solely to recapitalise the country’s troubled banks, with fewer structural reform conditions – akin to the aid being sought by Spain, which yesterday formally requested up to €100 billion for its financial sector. Spain finally made its formal request with a letter that failed to mention the amount needed and left markets guessing many of the details of how the country’s troubled banks will be rescued.

Spain’s foreign minister, José Manuel García-Margallo, added to confusion about the bailout process yesterday, saying Spain had not given up on its battle to have the money go directly to banks, without adding to the national debt. “The question of whether the money will go directly to the banks or to the state is still open,” he said.

It was also unclear how much of the €100 billion of bailout money Spain would finally ask for and when it would be needed. El País newspaper suggested yesterday that the government would ask for money bit by bit as the needs of each troubled bank became clear.

Officials from the Spanish government and the Bank of Spain have repeatedly said the bailout funds are not needed urgently.

They have also stressed that the €62 billion top figure provided last week by two independent auditors of Spain’s banking system would cover against a severe downturn over the next three years – suggesting their request may not go much higher than that.

Officials in Brussels are said to be less impressed with Cypriot reforms than with Madrid’s fiscal consolidation efforts, and the government’s statement requesting help suggested Cyprus was reconciled to a full bailout.

The banks in Cyprus have been hobbled by the need to write down holdings of Greek sovereign bonds. Cyprus Popular Bank, the island’s second-biggest lender, needs a €1.8 billion recapitalisation by June 30th to meet EU bank capital rules.

– (Copyright The Financial Times Limited 2012. Additional reporting Guardian, Reuters)