By , CNBC

Greece’s economy and its banking sector are feeling the strain of the reforms-for-rescue deadlock between Athens and its international creditors – and fears are rising that ordinary people’s bank accounts could be next to feel the squeeze. 

Greek banks are increasingly reliant on emergency funding from the European Central Bank (ECB) to get by and analysts say that if the central bank curbs this lending, Greece may have no option but to impose capital controls.

In short, that means restricting the amount of cash consumers and businesses can tap from banks.

Here’s why the risk of capital controls has risen:

Exit of cash:

Failure to reach a deal with its creditors as a series of loan repayments to the International Monetary Fund loom have fuelled uncertainty about Greece’s future and sparked fund withdrawals from Greek banks. Take a look at data published on Friday by the Bank of Greece: deposits by households and businesses fell 3.5 percent in April to 133.7 billion euros ($148.6 billion) from a month earlier and were down 17 percent from a year ago. 

Because of those deposit outflows, the Bank of Greece has replaced the loss of deposits with emergency funding from the ECB known officially as Emergency Liquidity Assistance (ELA).

Analysts at UBS said in a note on Monday that with minimal cash reserves of 1.9 billion euros at Greek banks and about 3-7 billion euros in deposit outflows a month, Greek banks need the ELA to keep ATMs running.

Trigger:

But given the slow pace of talks, the ECB has not significantly raised the amount of emergency funding to Greek banks. Analysts say that if it were to restrict this funding, Athens would need to impose capital controls and limit cash withdrawals to keep banks running. 

“Given that Greece and its creditors still remain at daggers drawn over crucial terms of the bailout agreement, there’s a significant and rising risk that some form of capital controls will have to be imposed,” Nicholas Spiro, managing director at Spiro Sovereign Strategy, told CNBC.

“If the ECB is forced to severely restrict ELA because of a default or breakdown in negotiations, then it’s very likely Greece will go the way of Cyprus,” he added.

Cyprus?

Yes, that’s right, capital controls imposed in the tiny Mediterranean island in 2013 to contain a financial crisis, could be a model for what happens next in Greece. 

Cyprus capped ATM withdrawals to 300 euros ($337) per person a day, with transfers of over 5,000 euros overseas needing approval by a special committee. In addition, anyone travelling out of the country was permitted to take no more than 3,000 euros per trip. Ending fixed-term deposits was banned, payments on credit and debit cards abroad were capped at 5,000 euros and checks could not be cashed.

The radical measures were eased in January, with the remaining capital controls lifted in April.

Real risk:

Credit ratings agency Moody’s said last month there was a “high likelihood” of capital controls being introduced in Greece. Deutsche Bank said last week there was a 40 percent chance of such measures being implemented. 

And UBS had this to say: “Negotiations have entered the decisive phase, while talks continue to be difficult. The risk of capital controls has increased to 40-50 percent in our view, while the exit risk is currently at the upper end of our 20-30 percent range.”

Permission first:

If Greece does decide to implement capital controls, it may have to seek permission first – according to the Treaty of European Union, capital controls are allowed but only at the request of a member state. 

“Ideally, capital controls would have to be put in place practically overnight…This would deepen Greece’s recession but would, in theory, give Athens time to hammer out a short-term deal with creditors,” said Spiro at Spiro Sovereign Strategy.

“However, let’s be clear, capital controls contravene EU law and in the case of Cyprus were meant to be a one-off. If Greece has to go as far as imposing capital controls, then the risks of an outright ‘Grexit’ rise considerably,” he said.