By Stelios Orphanides
Fitch Ratings said that the sale of the Co-op’s operations to Hellenic Bank and the related increase in government debt will not alter the public debt’s reduction over the medium term from this year.
The issue of €3.2bn in government bonds on Friday in favour of the bailed-out lender against an equal amount in government deposits, will result to an increase in the public debt by 16 per cent of gross domestic product (GDP), Fitch said in a statement on its website on Wednesday.
The issue of the bonds was part of the agreement signed by Hellenic Bank and the state-owned lender which provides for the transfer of the healthy operations of the bailed-out Co-op, which will increase Hellenic’s balance sheet by €10.3bn.
The maximum potential losses covered by the asset protection scheme issued by the government in favour of Hellenic as part of the agreement, “are estimated €155m over 12 years,” Fitch said. “The Ministry of Finance believes these costs, if realised, would be met by a guarantee fee paid by Hellenic Bank to the government, and by income generated by the residual entity”.
Cyprus saw its public debt fall to 97.5 per cent of economic output in 2017 from 106.6 per cent the year before, after peaking at 107.5 per cent in both 2014 and 2015. Fitch upgraded Cyprus’s sovereign credit rating in April to BB+ and placed it on positive outlook which is still one notch into the speculative area. The residual entity of the Co-op which will remain under government ownership consists mainly of €7bn in loans, the vast majority of which are non-performing. On June 29, Fitch placed Hellenic Bank’s B rating on rating watch positive.
“The new bonds mean debt to GDP will rise to 110 per cent this year from 97.5% at end-2017,” Fitch said adding that the increase exceeds their April forecast by 6 percentage points.
“But we still forecast debt to GDP to fall back below 100 per cent within our rating horizon, albeit one year later, in 2020, as Cyprus continues to achieve fiscal surpluses and strong economic growth supports revenues,” the rating company said. “These debt dynamics provide a degree of fiscal headroom to absorb some materialisation of contingent liabilities from the banking sector, as we commented when we upgraded the sovereign”.
“Moreover, by retaining most of (Cyprus Cooperative Bank’s) non-performing exposures (NPEs) in the residual entity, the transaction will reduce banking sector NPEs by €5.7bn and bring the NPE ratio to 37 per cent from 44 per cent,” Fitch continued citing the ministry of finance.
While this figure is still high compared to an EU-average of 4 per cent, it is expected to help clean up the balance sheets of banks plagued by an “exceptionally weak asset quality” which in turn undermines economic stability and growth and makes further credit rating upgrades less likely, it said.
Fitch added that its fiscal forecasts include the cost of Estia, the government scheme announced by the government to subsidise repayment of loans with a primary home as collateral, is expected to have a fiscal impact of 0.25 per cent of economic output and total €814m over 25 years.
While a bundle of laws passed by the parliament on July 8, overhauling the insolvency and foreclosure framework to help banks address strategic default, have helped reduce delinquent loans in other European counties, in the case of Cyprus, the pace of progress will depend on effective implementation.