The European Commission said that it expects growth in Cyprus to gradually slow down over the next years from 2.8 per cent in 2016 to 2.5 per cent this year and 2.3 per cent in 2018, as the high stock of bad loans of Cypriot banks continues to burden growth.
“Among the underlying reasons is inflation, which will turn positive for the first time in two years,” the EU Commission said their winder economic forecast on Monday. Growth over the next years will be driven mainly by investment and private consumption, amid a slow drop in unemployment with households continuing using their savings to fund their expenditure. In its latest economic forecast, the government said that it expected the economy to continue growing next year and in 2018 at the same rate as last year.
Following last year’s record tourist arrivals, partly a result of geopolitical tensions in competing countries and an extended tourism season, the Cypriot tourism industry has hardly the capacity to improve its performance, the EU Commission said. “Given the limited room to further expand the tourism sector, exports are expected to grow less dynamically and the contribution of net exports to growth is expected to be negligible”.
Risks to growth are mainly related to the Brexit referendum in the UK, Cyprus’s largest market of incoming tourism, and the subsequent depreciation of the British pound, the Commission said. Geopolitics in competing tourist destinations may also affect Cyprus’s growth. While currently deemed limited in the short term, these risks could increase “significantly” in the medium term.
The banks’ bad loans seen at roughly 50 per cent of their overall loan portfolio and their slow rate of restructurings “could lead to a prolong period of tight credit,” the Commission said.
Harmonised consumer prices are projected to increase to 1.2 per cent this year “largely driven by higher energy prices,” after falling as much last year and continue increasing in 2017 at a rate of 1.1 per cent, the Commission said. “In 2018, the effects from energy prices are expected to fade away, but domestic price pressures are projected to intensify as the economic recovery continues”.
The unemployment rate is forecast to drop this year to 12 per cent from 13.3 per cent last year before subsiding to 11 per cent in 2018, it said.
The government is forecast to generate a deficit of 0.2 per cent of economic output this year after a projected balanced budget in 2016, the EU Commission said. Public debt is forecast to drop to 99.6 per cent of the economy by 2018 after falling from 107.4 per cent in 2016 to 103.2 per cent next year on increased primary surpluses. This year’s marginal fiscal deterioration will be the outcome of the abolition of the immovable property tax and the hiring of professional soldiers as part of the army reform, all combined with “continued reduction in intermediate consumption and interest expenditures on the general government expenditure side”.
The EU Commission added that it expects a deterioration of the government’s structural balance, which takes into account cyclicality, partly on fiscal policy relaxation.
In October, a war of words broke out between Finance Minister Harris Georgiades and the EU Economic and Financial Affairs Commissioner Pierre Moscovici who warned Cyprus of fiscal relaxation. Moscovici had criticising the primary balance of 2 per cent of economic output included in the 2017 budget and proposed increasing the target by 1 percentage point in order to accelerate debt reduction and slow down the reduction of government debt.
Georgiades is scheduled to address the press on Tuesday.