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Cyprus should speed up debt reduction, IMF says

Τhe International Monetary Fund (IMF) said that a year after completing its adjustment programme, Cyprus still needed to reduce both private and public debt to strengthen economic growth and confidence.

The IMF, whose delegation was in Cyprus last week in a post-programme surveillance mission in coordination with the European Commission and the European Central Bank, said on Monday “a decisive upfront reduction in public and private debt is needed to rebuild policy buffers, cement confidence in macroeconomic fundamentals and policy commitments, deliver balanced, sustainable growth, and support balance sheet repair”.

IMF, which participated in Cyprus’s 2013 bailout with €1bn, was commenting in a statement on its website.

The economy, which expanded 2.8 per cent in 2016 is expected to grow 2.5 per cent this year with growth stabilising above 2 per cent until 2020, helping reduce private sector debt, the IMF said.

“Under these conditions, capacity to repay the (International Monetary) Fund is expected to be satisfactory, supported by sizable fiscal primary surpluses, the back-loaded maturity profile of official debt and possible further operations to smooth redemptions of market-based debt. However, repayment capacity would be weakened in the event of a new boom-bust growth cycle, if fiscal discipline is eroded or if risks in banks’ balance sheets materialise”.

The government should seek to accelerate the reduction of public debt, 106 per cent of economic output last year, by relaunching privatisations and resuming its attempt to reform the public sector, the IMF said.

“Accelerating public debt reduction would help to create a prudent buffer and safeguard the downward trajectory of debt in the event of adverse shocks,” the IMF said. Generating a primary fiscal surplus of 3 per cent of GDP on a cash basis over the next years could help the process.

Last year, the government posted a primary surplus of €473.8m on a cash basis, which accounts for 2.6 per cent of GDP.

“Guarding against fiscal slippages, including from the envisaged national health service as well as from wage and social benefit spending, will also be essential,” the IMF warned, weeks after the government, which faces re-election in February, decided to give in to the nurses’ demand for upgrading their pay-scales to match their academic qualification, prompting other groups to raise similar demands.

It added that amid improved liquidity in the banking system, its non-performing loan stock (roughly half of the banks’ loan portfolio) remained “very high,” undermining the banks’ profitability and while loan restructurings have pickup in momentum, a portion of restructured loans re-default.

“Restructuring progress across banks has been uneven, reflecting differences in the structure of their loan portfolios, the intensity with which various legal and other tools have been used, as well as in banks’ capacities to manage non-performing loans,” the IMF said in an obvious reference to significant progress in tackling large corporate bad debt as opposed to that of households and small and medium size enterprises. “Banks should be further encouraged not to defer restructuring in the expectation that future increases in output and property prices would autonomously improve recovery rates. Instead, they should focus on durable and sustainable loan work-outs, including through solutions that reduce a borrower’s debt to affordable levels”.

Cyprus should remove “operational barriers” to the resolution of non-performing loans which include incentives encouraging banks to delay the recognition of losses or dispose collateral, and address remaining impediments in the legal framework, modernised in 2015 with the enactment of the new foreclosure and insolvency legislation, the IMF said. “It is important that newly-issued bank lending, which is providing welcome support to the economy, is underpinned by robust lending policies, strong business plans from borrowers and close monitoring of credit risk”.

The IMF said Cyprus should resume with structural reforms in order to improve conditions on the labour market — with the unemployment remaining at 13 per cent last year — improve business environment and bolster against external shocks.

“Focus should be on expediting judicial reform to strengthen legal enforcement of commercial claims and speed up court procedures, restarting the privatisation program to increase economic efficiency and competition, and streamlining business procedures to attract new service sectors,” it said.

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