‘Cyprus domestic demand will drive recovery; NPL increase clouds picture’ – S&P Global

S&P Global, late on Friday, affirmed its rating for Cyprus at ‘BBB-/A-3’ for long- and short-term foreign and local currency sovereign credit ratings for Cyprus. The outlook is stable, the credit ratings agency said in a note.

S&P forecasts a relatively strong recovery in second-half 2021, driven by domestic demand, assuming the wide availability of a Covid-19 vaccine by mid-year 2021. But all this depends on “the wide availability of a Covid-19 vaccine by mid-year 2021.”

“Targeted measures to shield economic agents from the negative fallout of the pandemic have cushioned the impact on private consumption, which only contracted 0.6 per cent in the first three quarters, while public consumption increased significantly, by more than 14 per cent compared with the same period in 2019.

On the production side, over the same period, the information communication technology (ICT) sector, as well as public administration and real estate activities posted growth numbers, and exhibited resilience – net exports will increase due to ICT activity in the current year,” according to the note.

Financial and insurance activities contracted by 0.9 per cent between January and September 2020, compared with the same period in 2019, following an 8.2 per cent contraction the year before,” the note says.

Threatening factors remain, however: High public and private debt along with the still-elevated level of non-performing loans in bank portfolios which S&P predicts will increase in 2021, the note warns.

“We believe the low participation in the “Estia” scheme, coupled with amendments to the foreclosure law validated by the Supreme Court last year and government-announced freezes in foreclosure proceedings due to the pandemic will somewhat delay the workout of problematic assets.

Additionally, the large increase in re-defaulted restructured loans, which represented 26 per cent of total restructured loans as of Sept. 30, 2020 (compared with 20 per cent two years before), highlights that improving payment culture remains a challenge. Therefore, despite significant progress achieved and manageable deterioration expected in the upcoming years, we still consider banks represent a contingent fiscal risk for the government.”

EU Recovery fund will help drive economy

The EU Recovery Fund will also be an important factor, the analysts say. “Cyprus is eligible for up to about €1 billion (about 5 per cent of GDP) in grants from the EU’s RRF, which we expect will be accompanied by implementation of structural economic and budgetary reforms, further enhancing the prospects for a solid economic recovery.”

S&P warned, however, that this year would be clouded by the pandemic.

“We expect the COVID-19 pandemic will continue to cloud economic and fiscal outlooks this year amid only partial recovery of the tourism sector. Measures to contain the spread of Covid-19 and the sudden stop of tourist flows pushed Cyprus’ economy into a recession in 2020, resulting in a sizable fiscal fallout, with gross government debt reaching a high 119 per cent of GDP.”

However, an improved government debt profile, large government cash buffers, and continued pan-European fiscal and monetary support should mitigate these risks, the note pointed out.

“The issuance of long-dated euro medium-term notes at low yields will continue to provide support.. Furthermore, authorities hold significant cash buffers, at least equivalent to nine months of financing needs, markedly reducing short-term refinancing risk,” the credit agency commented.

As the impact of the Covid-19 pandemic subsides, solid economic growth prospects will allow the economy to continue deleveraging through 2024, according to the note.

“We expect Cyprus’ economy to expand by 3.8 per cent in 2021, supported by gradual improvement in the evolution of the pandemic due to the vaccination campaign and one of the highest rates of coronavirus testing in the EU. We anticipate policymaking will remain geared toward the reduction of economic vulnerabilities and improving financial sector health.”

“The ‘BBB’ rating means that a sovereign has adequate capacity to meet its financial commitments. However, adverse economic conditions or changing circumstances are more likely to weaken the capacity to meet its financial commitments, S&P notes on its website.