In its rationale, the agency said that Cyprus’ ratings were based on a broad-based economic recovery and a substantial budget surplus but with the crisis legacy of high public debt and non-performing exposures (NPEs) in the banking sector.

According to Fitch, the buoyant cyclical recovery of the economy continued in 2018, significantly exceeding eurozone dynamics, with a GDP growth of 3.9% driven primarily by domestic demand, including large foreign-financed investment projects in real estate and tourism, and robust private consumption.

Fitch forecasts growth to slow in 2019 and 2020 to 3.5% and 2.8%, respectively, as the spare capacity in the economy has been gradually absorbed and the external environment becomes less supportive.

“The combination of prudent fiscal policy stance and buoyant cyclical recovery resulted in a further improvement in the budget balance,” the agency said, adding the general government surplus, excluding one-off items, reached 3.2% of GDP in 2018 from 1.8% in 2017 and 0.3% in 2016.

“Cyprus has the largest budget surplus among eurozone members and the surplus is also significant compared with a category median of a 2.3% deficit,” it added, forecasting that the budget surplus is forecast to remain above 2% of GDP in 2019 and 2020, well above the requirements of the EU fiscal rule.

The agency also noted that Cyprus’ gross general government debt (GGGD) is very high at 102.5% of GDP.

Cyprus’ debt, is on a firm downward trajectory, interrupted in 2018 by an increase (by €3.19 billion, equal to 15.5% of GDP) due to transactions related to the sale of the Cyprus Co-operative Bank to Hellenic Bank, which was partly offset by an €800 million early debt repayment in December 2018.

“According to our debt dynamics simulation, although the primary surpluses are expected to decline, they will remain substantial, and combined with robust growth and contained nominal effective interest rates will reduce GGGD/GDP to 70% of GDP by 2026,” the agency added.

Fitch said that court rulings on public sector wage cuts could lead to lower budget surpluses until 2022 but would not undermine the downward debt trajectory.

The agency said the banking sector remains a weakness due primarily to the weak asset quality and high NPE ratios that are still weighing on capital.

The ratio of NPEs to total loans decreased substantially from 43.7% at end-2017 to 32% at end-November 2018, but still remains among the highest in the EU.

“Addressing the legacy issues in the banking sector remains an economic policy priority,” Fitch said, recalling that key legislative amendments aimed at facilitating NPEs securitisation and sales of loans, and strengthening foreclosure and insolvency toolkits were adopted by parliament in 2018, while the government will soon launch a subsidy scheme (Estia) to help defaulting mortgage borrowers through loan restructurings and state subsidies to incentivise loan repayment.

However, the agency said private sector debt and non-performing exposures remain high at 154% (excluding special purpose entities; SPEs) and 55% of GDP in 3Q18, respectively, and constrain credit growth, with the recent decline in the indebtedness stemming mostly from debt-to-asset swaps, loan write-offs and high nominal GDP growth rather than loan repayment.

Source: Cyprus Mail