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Cyprus won’t need full bailout, says Fitch

Fitch Ratings agency has affirmed Cyprus’s long-term foreign and local currency Issuer Default Ratings (IDRs) at ‘B-‘ with a Positive Outlook, according to a statement issued on Friday.

The ratings agency also assumes in its statement that Cyprus will not need the full €10 billion aid granted by the troika of lenders (European Union, European Central Bank and International Monetary Fund).

The issue ratings on Cyprus’s senior unsecured foreign and local currency bonds have also been affirmed at ‘B-‘. The Country Ceiling has been raised to ‘BB-‘ from ‘B’ and the Short-term foreign currency IDR has been affirmed at ‘B’.

Explaining their key rating drivers, Fitch Ratings stated that the public debt, at around 107.1% of GDP in 2014, is more than double the ‘B’ category median of 47 per cent. The high debt ratio reduces the fiscal scope to absorb any additional domestic or external shocks, “but the recent fiscal over-performance has improved the public debt dynamics. The general government debt to GDP ratio is expected to peak at just over 110 per cent in 2015 and 2016 and will ease to around 90.7 per cent by 2022.”

Regarding the bailout estimation, Fitch ratings assumes that the strong budget performance implies the buffers in the programme have grown close to €3 billion (17 per cent of GDP). The underlying trend for public finances has been positive.

“The fiscal deficit in 2014 was 0.2 per cent of GDP (8.8 per cent of GDP including the one-off capital injections to the co-operative sector) compared with Fitch’s forecast of 3.3 per cent in October. The over-performance reflects a combination of higher tax revenues and lower than expected expenditure across most items. The strong budget execution should help keep future deficits lower. Fitch expects the fiscal deficits to average 0.8 per cent from 2015 to 2018”.

Is not all good news though, as the credit ratings agency also noted the government’s difficulty in passing legislation that will work towards conforming to the lenders guidelines.

“The government does not hold a majority in parliament, which has created obstacles to the timely passing of insolvency and foreclosure laws. There is a significant risk that privatisation plans required under the programme will not be fully implemented, leading to further delays to programme reviews. The environment for Cyprus’s banks remains challenging, especially with regards to weak asset quality. The stock of sector non-performing loans (NPLs) reached an exceptionally high 50 per cent of gross loans at end-2014 from around 46 per cent at end-April 2014. The ECB’s Comprehensive Assessment found a shortfall in capital based on end-2013 data, but this had already been raised. The co-operative sector required €1.5billion of public injections in 2014, which was part of the EU-IMF programme envelope. The removal of the remaining capital controls in April has led to the Country Ceiling being raised by three notches to ‘BB-‘. There has been an incremental relaxation of these controls over the past 18 months. Their easing and eventual removal has not led to any material financial or economic instability. Domestic banks’ deposits increased in 2014 and have remained broadly steady in the first four months of 2015.

The Fitch statement also deals with the possibility of Greece exiting the Eurozone and how closely linked are the two economies.
“As a country still in the midst of a post-crisis adjustment, Cyprus is among the most vulnerable eurozone sovereign to a disorderly Greek exit. The direct linkages between the two economies have been reduced in recent years and are not large. However, the impact on depositor and investor confidence is harder to gauge. Fitch’s base case is that Greece will remain a member of the eurozone, but recognises that ‘Grexit’ is a material risk. Although a Greek exit would represent a significant shock to the eurozone that could spark a bout of financial market volatility and dent confidence, Fitch does not believe it would precipitate a systemic crisis like that seen in 2012, or another country’s rapid exit. Economic conditions in Cyprus remain challenging, with output forecast to decline by 0.8 per cent in 2015, the fourth consecutive year of contraction. The GDP fall of 2.3 per cent in 2014 is better than the 3 per cent expected by Fitch in October. Private consumption has been more resilient than expected. Households have also been spending their savings, but there is uncertainty over the sustainability of this trend. Near-term liquidity risk for the government is low. There are no major bond redemptions due until November 2015. Using the proceeds of market borrowing in 2014, the government has smoothed the maturity profile of its debt in 2016-2017, reducing refinancing risks”.

The credit rating agency additionally welcomes the passing of the insolvency law and the activation of the foreclosure law, arguing that it will strengthen the foreclosure framework and address the high banking NPL problem.

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