Brussels, 7 November 2013
Statement by the European Commission, ECB and IMF on
the Second Review Mission to Cyprus
Staff teams from the European Commission (EC),
European Central Bank (ECB), and the International Monetary Fund (IMF) visited
Nicosia during 29 October – 7 November for the second quarterly review of
Cyprus’s economic programme, which is supported by financial assistance from
the European Stability Mechanism (ESM) and the IMF. The programme’s objectives
are to restore financial sector stability, strengthen public finance
sustainability, and adopt structural reforms to support long-run growth, while
protecting the welfare of the population.
Cyprus’s programme is on track. All fiscal targets
have been met with considerable margins, reflecting the ambitious fiscal
consolidation underway, prudent budget execution, and a less severe
deterioration of economic activity than originally projected. Structural
reforms are also advancing. Furthermore, since the last review, there has been
significant progress toward the recapitalisation and restructuring of the
financial sector. This has allowed further relaxation of payment restrictions
since July, in line with the government’s milestone-based roadmap.
The economic situation remains difficult, although the
recession has been less pronounced than expected. Based on recent indicators,
output in 2013 is projected to contract by about 7.7 per cent, about 1
percentage point less than originally envisaged. Tourism and professional
services have proven relatively resilient, and confidence has continued to
improve gradually. New foreign direct investment in the banking sector has been
a positive sign. Looking forward, given the significant need to reduce high levels
of private sector debt, output is expected to contract by 4.8 per cent in 2014,
and to recover only gradually starting in 2015, driven by non-financial
services. However, the risks surrounding the outlook remain substantial.
The authorities have made important strides with the
recapitalisation and restructuring of the financial sector. Hellenic Bank has
been successfully recapitalised with private funds, including foreign
investment, and without state support. Bank of Cyprus has a new Board of Directors
and Chief Executive Officer and has put in place a restructuring plan aimed at
returning the bank to profitability over the medium term. Funds for the
recapitalisation of the cooperative credit sector have been secured in a
special account and would not involve depositors. A Board of Directors for the
Cooperative Central Bank has been appointed, and the restructuring of the
sector is advancing, with four mergers of 28 institutions already completed.
Looking ahead, the main challenge is to repair the
banks’ balance sheets and restore depositor confidence. This is key to the
resumption of credit to the private sector, which is needed to support the
economic recovery. Diligent implementation of banks’ restructuring plans will
be critical, including efforts to restructure the loans of viable borrowers in
need, while discouraging strategic defaults. Payment restrictions will need to
continue to be relaxed in line with the published milestone-based roadmap,
while safeguarding financial stability. Finally, the authorities need to
further strengthen the supervisory, regulatory, and Anti-Money Laundering
implementation frameworks.
Fiscal performance remained strong. The authorities
have maintained a cumulative primary surplus of about 0.7 per cent of GDP
through end-September, meeting the programme targets comfortably and placing
end-of year targets well within reach. Given the outturns to date, the 2014
fiscal deficit is expected to be about 1 per cent of GDP lower than originally
anticipated. The 2014 budget remains conservative and seeks to bring forward
part of the consolidation needed in the outer years to achieve and maintain a
long-run primary fiscal surplus of 4 per cent of GDP, enough to put public debt
on a firmly downward path.
Structural reforms are advancing. A governance
structure has been put in place to carry out an ambitious revenue
administration reform aimed at improving efficiency of collections. Progress is
also being made on the reform of the social welfare system, which will
introduce a guaranteed minimum income scheme providing financial assistance to
those in need, including those currently not covered by public assistance. This is particularly important given
the difficult economic conditions. These efforts need to continue and be
complemented by further steps to advance the privatisation agenda in the coming
weeks.
The
authorities’ strong programme implementation so far is welcome. Nevertheless,
given still significant risks ahead, continued full and timely policy
implementation remains essential for the success of the programme.
Next steps: The conclusion of this review is expected
to be considered by the Eurogroup, the ESM Board of Directors and the Executive
Board of the IMF in December. Its approval would pave the way for the
disbursement of €100 million by the ESM, and about €86 million by the IMF.
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