November 2015

Cyprus Economy Review

Economic growth accelerates

The Cypriot economy recorded growth for the third consecutive quarter in the period of July-September 2015. According to preliminary estimates of the Statistical Service the growth rate exceeded 2%.

Data announced today by Eurostat and the Statistical Service show that the economy grew by 2,2% yoy in the third quarter of the year compared to growth of 0,6% in the second quarter of 2015, after the adjustment of GDP on seasonally and working days.
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On a quarterly basis, the economy grew by 0,5% in relation to the second quarter of 2015, as in the second quarter of the year. It is the third consecutive quarter that the Cypriot economy records growth after a recession that lasted for 14 consecutive quarters, starting from the third quarter of 2011.

According to the Statistical Service, positive growth rates were recorded by the sectors "manufacturing", "retail and wholesale trade", "hotels and restaurants", "transport", "professional, scientific and technical activities", "administrative and support service activities" as well as the "financial service activities".

Negative growth rates were recorded by the sectors ''recreational, cultural and sporting activities", "activities of households as employers" and "other community, social and personal service activities".

According to data released by Eurostat the eurozone economy grew by 1,6% compared to the third quarter of 2014 while in the EU growth reached 1,9%.

In the second quarter of 2015 the euro area economy grew by 1,5% while in the EU growth of 1,9% was recorded.

The GDP of Germany grew by 1,7% against an increase of 1,6% in the second quarter of 2015. France’s GDP rose by 1,2% against an increase of 1,1% in the previous quarter. Greece's GDP recorded a contraction of 0,4% from growth of 1,1% in the previous quarter.

On a quarterly basis, the GDP of the eurozone showed no significant change compared with the second quarter of 2015 as it stood at 0,3% from 0,4% while in the EU it remained stable at 0,4% (Source:
Economic adjustment programme review completed

Cyprus has completed another bailout adjustment programme progress review successfully, possibly the last one, Finance Minister Harris Georgiades said on Friday (13/11/2015), but warned that reforms must continue in a bid to strengthen the island’s growth prospects.

“The effort is yielding results, the real economy started to move, but we must continue with the same intensity,” he said. “We must safeguard and bolster the growth prospects and this requires that all reforms must continue, the prudent management of public money will be a rule, and that decisions in on economy issues in general would be responsible.”

The minister expects the eighth review to be the last since it will be formally completed after the Eurogroup meeting in mid January, with disbursement of the tranche at the end of the same month.

It is not expected that a delegation from the troika of international lenders would have time to carry out another review before the end of the adjustment programme on March 31, 2016 (Source:
The House of Representatives approved the bill enabling the sale of loans

The House of Representatives approved on 12th November 2015 the bill enabling the sale of loans, which had been set as prior action for the conclusion of the eighth review of Cyprus financial assistance package. The bill allows the sale of loans to third parties and applies stricter criteria for loans up to €1m.

Under the bill, borrowers irrespective of the outstanding loan amount maintain in the case of a loan sale all rights provided by existing legislation and Central Bank directives, including the code of conduct for arrears management and insolvency framework, without any modifications.

In the cases of loans below €1m, buyers can only be financial institutions licensed either in Cyprus or any other European Union country, as well as specialised loan purchasing funds established in the Republic of Cyprus and licensed by the Central Bank of Cyprus.

It shall be noted that the financial institutions shall first ask the borrower or the guarantor whether he or she is willing to purchase the loan before selling the laon to a third party (Source:
Moody's upgrades Cyprus

Moody's upgraded on the 13th November 2015 Cyprus' government bond rating by two notches to B1 from B3 at the back of the improvement of the macro-economic environment and the better than expected fiscal performance.

It also set a stable outlook and affirmed Cyprus's short-term rating at Not-Prime (NP).

The credit agency points as the primary reasons for the upgrading the faster than expected economic recovery and the expectation of a continued more broad-based growth that extends beyond exports.

It notes that the economy has demonstrated resiliency to external risks, emanating from Greece and Russia and that after three years of contraction, real economic growth is expected to reach 1,2% in 2015 and 1,4% in 2016.

Medium-term growth is expected to be more balanced, supported by a recovery in domestic demand helped by a stabilisation of the financial sector, improved competitiveness and the implementation of structural reforms.

It points out that consistent outperformance on fiscal targets have led to a quicker reversal in the public debt ratio. A combination of better than expected growth and also strong budget execution underscore fiscal outperformance.

Moody's expects fiscal discipline to continue post programme exit and through parliamentary elections next year. Under Moody's baseline scenario, the government debt burden will now reach below 100% by next year and around 80% of GDP by 2020. Moreover, Moody's expects the country to successfully exit the economic adjustment programme by mid-2016, further supported by the build-up of significant liquidity buffers.

More specifically, the first driver of Moody's decision to upgrade Cyprus' rating to B1 is the faster than expected economic recovery, and the expectation that the export sector will continue to demonstrate resilience and will now be augmented by growth in domestic demand.

Moreover, Moody's believes that structural reforms that improve competitiveness along with prospective structural reforms such as the reform of the public administration, privatisation and also the gradual strengthening of the financial sector will improve the sustainability of medium-term growth.

Improvements in cost competitiveness underpin the potential of the export sector as wage growth will likely remain moderate in the coming years. Importantly, the economy, and in particular the tourism and banking sectors, have demonstrated resilience to the economic downturn in Russia and the escalation of the economic crisis in Greece earlier this year.

The more balanced growth pattern is also driven by the stabilisation in the financial sector, which has resulted in a slight uptick in corporate credit growth this year. While still very weak the financial sector reflects stable liquidity trends and increasing prospects for a return to profitability. Importantly, deposits remain stable at a systemic level despite the full lifting of capital controls on 6 April 2015.

Moody's also expects that recent laws implemented in the financial sector, namely the insolvency and foreclosure framework, will support the gradual reduction of non-performing loans (NPLs) in the system, which are currently at a high 47% of total loans. That said, Moody's notes that both the corporate and household sectors continue to have high, albeit reducing debt burdens.

Cyprus' economic growth resumed again in the first half of 2015, increasing 0,4% y-o-y, following a three-year contraction. As a result of the more broad-based recovery, Moody's has revised upward its real GDP growth forecasts for Cyprus to 1,2% in 2015 from 0.5% and Moody's expects growth to reach around 1,4% in 2016.

The firm notes that the second driver for the upgrade is the consistent outperformance of fiscal targets because of strong budget execution and better than expected growth performance. Consequently, Moody's expects that from this year onwards, public debt ratio will start to decline.

Since the onset of the structural adjustment programme, Cyprus's fiscal metrics have consistently exceeded the targets set by the EC and the IMF. Mainly expenditure-related measures (reducing public sector wages and benefits), aimed at permanently reducing the deficit, were included in the 2013 budget, and resulted in significant fiscal consolidation of 7,5% percentage points of GDP over 2013-14, according to IMF data. Strong fiscal discipline and budget execution has persisted since then, supporting the outperformance of fiscal targets. Importantly, the programme does not require additional fiscal measures for next year to meet the primary surplus target of 2,5% of GDP, implying a fiscally neutral policy can be implemented with no impact on growth.

Consequently, Cyprus' government debt trajectory has improved significantly, especially in relation to original programme targets.

General government debt peaked last year reaching 108,2% of GDP, one year earlier and lower than what was expected at the time of the last rating action, when Moody's expected debt to GDP ratio to peak in 2015 at 110% of GDP.

Moody's expects fiscal discipline to be sustained through the upcoming parliamentary elections in May 2016 and also continue after the country exits the economic adjustment programme which is also expected by the middle of next year. Based on a primary surplus assumption of 2,5% of GDP and 1,7% growth rate over the next four years, Moody's expects general government debt to GDP to fall below 100% next year and reach round 80% of GDP in 2020, making Cyprus one of the few euro area countries to meet its programme debt-to-GDP target.

Additionally, the rating agency notes that Cyprus regained market access last year and since then accumulated a substantial cash buffer. This buffer, as of today covers most of the country's repayment needs for 2016, preparing the country for a successful exit from the programme in March 2016 when the ESM funded programme finishes and May 2016 when the IMF programme ceases.

The stable outlook on Cyprus's B1 rating reflects evenly balanced upside risks of improving growth and fiscal metrics with the downside risks of a still very large and fragile banking system with high NPLs, with the risk of contingent liabilities crystallising on the governments balance sheet still high.

The agency notes that upward pressure on Cyprus's B1 government bond rating could result from continued fiscal discipline after exiting the EC/IMF programme, e.g., if the government's primary surplus were to be sustained at high levels. In addition, evidence that the risks to growth specifically emanating from the banking sector have reduced would imply upward pressure; higher economic growth and/or a more rapid reversal in the upward trend for banks' NPLs would be credit positive.

Downward pressure on Cyprus's B1 government bond rating could emerge if the government's commitment fiscal discipline reduces, especially once the EC/IMF programme concludes. Evidence that the banking sector needs further recapitalisation support from the government would also exert downward pressure on the rating. A re-emergence of elevated financial and debt market stress, which could be triggered in the case of Greece exiting the euro area, would also be credit negative. Earlier this year, uncertainty regarding Greece's euro membership and associated contagion risks constrained positive movement on Cyprus' previous rating of B3 (Source:
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