“Institutional strengths and policy credibility are backed by eurozone membership. These strengths are balanced by high levels of private and public sector indebtedness, large external imbalances, and vulnerabilities in the banking sector,” it said.

“The Stable Outlook reflects our view that although the Cypriot economy has had a robust post-pandemic recovery and government finances have proved resilient, the worsened outlook for eurozone growth and uncertainties related to Cyprus’ high exposure to Russia through its investment and tourism linkages pose significant risks.

Fitch found that first half GDP grew at an annual rate of 6.0%, compared with the eurozone average of 4.7% for the same period. Recovery in the tourism sector has been stronger-than-expected, despite the absence of Russian tourists (which were 20% of tourist arrivals in 2019).

Falling levels of unemployment have been accompanied by increased labour market participation. Against the backdrop of the deepening energy crisis in Europe and high inflation, Fitch expects a slowdown in the Cypriot economy from the second half, although headline GDP growth is projected to be 1.6% higher than its forecast six months ago, at 4.7% in 2022. In 2023, recession in the eurozone Fitch forecasts -0.1% real GDP growth, will slow growth in Cyprus to 1.8%.

As for inflationary risks, Fitch said Cyprus does not import natural gas, so is not directly exposed to the risk of gas shortages facing Europe this winter.

“However, Cyprus is entirely dependent on imports of oil and petroleum products for its electricity generation, which leaves inflation and terms of trade highly sensitive to changes in global oil prices,” it said.

It forecasts inflation to average 7.9% in 2022, before declining to 4.9% in 2023 owing to lower oil prices. Wages will increase in 2023, as a result of the automatic wage indexation (to half of the increase in inflation of the previous year). New negotiations on multi-year collective wage agreements will also start from this year. “However, we consider the risk of a potential wage-price spiral to be low”.

Cyprus’ public debt-to-GDP ratio is fast declining towards its pre-pandemic level, Fitch said. After peaking at 115% in 2020, debt declined to 103.6% in 2021, recording the second largest decrease in public debt amongst EU economies. For 2022, Fitch forecasts a further decline in debt to 91.7%.
New measures to offset higher energy prices and a weaker economic outlook than baseline pose a downside risk to our medium-term debt projections, which have debt falling below 85% of GDP by 2024.

Fitch’s Banking System Indicator (BSI) for Cyprus at ‘b’, is among the weakest of rated European sovereigns. Notable progress has been made in the sale and write-off of legacy non-performing loans (NPLs); with the ratio to total gross loans 11.2% in June 2022, vs 17.9% in December 2020. However, the weaker economic outlook could pressure borrowers in certain sectors of the economy and slow new lending, which remains below pre-pandemic levels. Loan exposure to vulnerable sectors (tourism, transport, real estate and construction) is relatively large (approximately 34% of total sector portfolio.

Source: Cyprus Mail