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‘No reason to rejoice but no worse than expected’

IMF Mission Chief for Cyprus Delia Velculescu said Cyprus made 'good progress'.

CYPRUS is “on track” with reforms to shore up its economy, the IMF said yesterday, but noted downside risks lurked from the yet-unclear impact of a banking sector overhaul.

IMF Mission Chief for Cyprus Delia Velculescu said Cyprus has made “good progress” in meeting fiscal targets but warned that continuing uncertainty surrounding the bailout programme and banking sector made public sector reforms, improved tax collection and privatisations imperative.

“Risks to the programme remain substantial, given the uncertain impact of the crisis, the still-recovering banking system and ongoing challenges to policy implementation,” said the IMF staff report.

In a report released yesterday, the IMF said: “Consumer confidence remains at historically low levels, while labour market conditions are gradually worsening and weighing on private consumption.”

In its first review of the bailout programme for the island, the International Monetary Fund said Cyprus had shown a better fiscal performance than anticipated, and kept fiscal forecasts the same, though revised upwards unemployment projections for this year and the next.

It expected the island’s economy to contract by “about” 9 per cent this year and 4 per cent in 2014 before returning to mild growth in 2015.

“Risks remain substantial and tilted to the downside,” the IMF said, adding that risk included the banking crisis having a larger-than-anticipated impact on households and corporate.

“These could result in a deeper and more prolonged recession, as well as in weaker long-run growth, with dramatic consequences for debt sustainability.”

At the same time, the IMF notes that only about a third of losses incurred as a result of the ‘bail-in’ of the island’s two biggest banks are estimated to have affected local residents.

In parallel with the release of the IMF report, the European Commission prepared its own report on the Cyprus programme.

An EU official, who briefed reporters on the separate report, was quoted yesterday by the Wall Street Journal saying that the Cypriot government’s efforts to stick to the bailout programme did not necessarily provide a reason to rejoice.

“When I say it’s positive news, I mean it’s not worse than expected,”

The Commission’s review said bank credit was expected to keep shrinking, but that this was a “necessary adjustment of the previous excessive credit expansions”.

The Brussels institution said putting the Cypriot banking sector on a solid footing again had taken “more time than initially foreseen due to the complexity of the situation”

It also acknowledged that lending to small and medium-sized enterprises and households has virtually come to a standstill, noting that “almost all businesses in Cyprus are SMEs”.

According to the IMF, corporate lending dropped by 9 per cent year on year in June, while mortgage lending fell by 3 per cent and consumer loans 7 per cent.

Despite the imposition in March of capital controls on banks- a first for the eurozone- net outflows reached around €8 billion by August 21, said the IMF, counting for 12.6 per cent of deposits, or nearly half the country’s GDP.

Velculescu said: “The largest challenge for the banks is to deal with deteriorating asset quality. The key here will be to develop plans to ensure that all banks achieve a return of confidence and a return to profitability.”

Public hostility to the bailout programme was also waning, said the IMF, which is providing $1.3 billion of the bailout money to the Mediterranean nation.

It said however that authorities needed to stay vigilant because challenges such as rising unemployment and worsening social conditions could test its resolve. The IMF revised original unemployment projections upwards, noting that 17 per cent of the Cypriot workforce would be out of a job this year, up from an original projection of 15.5 per cent.

A bleak view of the job market is held for 2014 also, with unemployment expected to reach 19.5 per cent next year, rising from the 16.9 per cent previously estimated.

Structural reforms and privatisations planned for the coming years required political will in the face of strong vested interests, the IMF said.

The Eurogroup approved the disbursement of €1.5 billion from the bailout to Cyprus last week, while the IMF released its contribution of €84.7 million on Monday.

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