{
  "title": "Cyprus: Staff Concluding Statement of the 2018 Article IV Mission",
  "publication": "IMF News, October 5, 2018",
  "sourceUrl": "https://www.imf.org/en/news/articles/2018/10/05/mcs10518-cyprus-staff-concluding-statement-of-the-2018-article-iv-mission",
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  "summary": "Five years after the financial crisis, the Cypriot economy has turned the page on its recovery path: growth momentum is strong and fiscal performance is robust.",
  "publishDate": "2018-10-05",
  "sections": [
    {
      "heading": "Key findings and recent developments",
      "content": "- Five years after the financial crisis, the Cypriot economy has turned the page on its recovery path: growth momentum is strong and fiscal performance is robust.\n- The economy grew by over 4 percent in 2017 and the first half of 2018, supported by tourism, professional services, and construction.\n- Wages and property market prices are rising after an extended period of stagnation, but the pace remains very gradual, contributing to low underlying inflationary pressures.\n- Increased domestic demand has boosted imports, widening the underlying current account deficit.\n- Economic growth has been largely supported by external financing because the banking sector remains hamstrung by weak balance sheets.\n- Important strides were made in addressing banking-sector vulnerabilities:\n  - Resolution of the government-owned Cyprus Cooperative Bank (CCB), the second-largest bank, albeit at a high cost to the public purse.\n  - Passage of a legislative package to strengthen insolvency and foreclosure frameworks.\n  - These measures have catalyzed bank balance-sheet cleanup and contributed to a sovereign ratings upgrade to investment grade status.\n- Notwithstanding progress, the economy is weighed down by very high private and public debt and NPL ratios that, while declining, remain among the highest in Europe."
    },
    {
      "heading": "Outlook and risks",
      "content": "- Near-term growth:\n  - Growth is expected to exceed 4 percent in 2018–19, driven by domestic demand.\n  - Private consumption growth is expected to decelerate as borrowers step up debt servicing.\n  - Investment is expected to pick up further, reflected in a pipeline of construction projects in residential properties, education, health and tourism infrastructure.\n  - These import-intensive projects, plus slowing tourism growth in some source markets, will somewhat widen the current account deficit.\n- Medium-term outlook:\n  - Over the medium term, as the transitory effects of the investment boom and euro area cyclical growth dissipate, growth is expected to slow towards a potential growth rate of around 2½ percent.\n  - Sustaining medium-term growth requires progress in structural reforms to lower systemic financial risks and catalyze productivity-enhancing investments.\n- Risks (tilted to the downside):\n  - Delays in NPL resolution and limited strengthening of payment discipline will weigh on investor sentiment and growth potential.\n  - Increase in moral hazard and realization of contingent liabilities from publicly supported schemes could weaken the fiscal position and raise risk premiums, especially under tightening global financial conditions.\n  - High dependence on Citizenship-by-Investment (CbI) financed investments could pose risks to sustainability.\n  - External risks include escalating trade tensions, a sharper-than-expected slowdown in euro area growth, or a hard Brexit.\n- Upside risk:\n  - Prospect of offshore hydrocarbon development.\n  - Faster progress in dealing with NPLs could attract additional FDI, increase credit flows, and strengthen economic growth."
    },
    {
      "heading": "Policy priorities — Financial sector: lowering NPL and private debt overhang",
      "content": "- Steady reduction of NPLs and high corporate and household debt is a priority.\n- Recent legal and institutional changes:\n  - Amendments to foreclosure and insolvency legislation, the sales of loans law, and adoption of a law on securitization enhance tools for addressing NPLs.\n  - Strengthened foreclosure framework intended to act as a credible threat against strategic default and improve payment discipline.\n- Implementation and complementary measures:\n  - Steadfast implementation of the enhanced frameworks is essential to facilitate timely enforcement and ensure durable resolution.\n  - Structural reforms are needed to strengthen institutions, in particular the court system, and to remove uncertainties related to title deeds.\n- Regulatory and governance needs for credit-acquiring companies and CAMC:\n  - Central bank should develop a regulatory and supervisory framework for credit-acquiring companies, including reporting requirements, on-site inspections, and off-site monitoring.\n  - Governance framework for the government-owned Cyprus Asset Management Company (CAMC) needs to balance operational independence with public accountability and transparency, with a clear mandate, operational targets, an independent board, and skilled, performance-based management compensation.\n- Design of the proposed subsidy scheme (Estia):\n  - Estia should be better targeted to those most in need; tighter eligibility criteria and clearer communication would help avoid moral hazard.\n  - Appropriate assessment of borrowers’ capacity to repay restructured debt on a sustained basis is important.\n  - Banks should maintain adequate provision coverage and promptly utilize foreclosure and insolvency frameworks to address re-defaults.\n  - The scheme’s design and impact assessment should be informed by a detailed analysis of borrower data.\n- Other bank-strengthening measures:\n  - Continue efforts to diversify income sources and consolidate operations to improve cost-income ratios.\n  - Focus on bank lending policies, sustainability of restructurings, adequacy of provisioning coverage, and debt-to-asset swap policies to encourage sound risk management."
    },
    {
      "heading": "Policy priorities — Fiscal policy: safeguarding fiscal space and reducing risks to public debt sustainability",
      "content": "- Fiscal stance and risks:\n  - Cyprus is projected to maintain large primary fiscal surpluses that should reduce public debt going forward (despite a large one-off increase this year due to the CCB transaction).\n  - Reversal of crisis-era wage cuts and interest levy, introduction of the Estia scheme, and likely increases in health expenditures following the rollout of the National Health System starting next year imply a modest structural loosening.\n  - With the output gap closed, a procyclical fiscal stance could increase wage pressures and weigh on competitiveness.\n- Recommended fiscal rules and constraints:\n  - Strict spending discipline should be maintained given already elevated public debt.\n  - Transitory revenues from cyclical gains and one-off measures should not finance permanent spending initiatives.\n  - Expenditure rises should be capped by medium-term GDP growth (adjusted for permanent revenue changes).\n  - Keep the public wage bill envelope within nominal GDP growth.\n- Health sector transition:\n  - Transition to public insurance in health needs careful management; phasing in and fine-tuning of the regulatory framework for service provision and reimbursement mechanisms may take time to control incentives for over-provision.\n- Complementary fiscal structural reforms:\n  - Implement spending reviews, public administration reform, local government reform, and governance improvements for state-owned enterprises to minimize fiscal risks."
    },
    {
      "heading": "Policy priorities — Structural reforms: improving the investment climate and inclusive growth",
      "content": "- Judicial reform and enforcement of commercial claims:\n  - Increase court efficiency, clear case backlogs, and speed enforcement of commercial claims to reduce cost of capital and improve access to financing and investment.\n  - Add judges, reform the civil procedure code, and introduce an e-justice system to reduce length of court procedures.\n  - Address persistent delays with issuance and transfer of title deeds, focusing on clearing the backlog and preventing recurrence.\n- Public sector governance and public administration effectiveness:\n  - Strengthen public financial management through better internal controls and monitoring of risks from local government and public bodies.\n  - Improve corporate governance of commercial state-owned enterprises: strengthen financial oversight, implement a more effective planning and reporting framework with greater disclosure and transparency, and introduce a code of conduct consistent with OECD principles.\n  - Legislation to reform assessment and promotion in the civil service would facilitate greater mobility and efficiency.\n  - Local government reform would improve service delivery.\n  - Expedite legislative efforts to strengthen the governance and autonomy of the Central Bank of Cyprus.\n- Promoting inclusive growth:\n  - Address high youth unemployment and low employment rates for recent tertiary graduates due to skills mismatch.\n  - Promote Active Labor Market Policies (ALMPs) targeting youth and other vulnerable groups, strengthen education to better link work-based and school-based programs, and encourage investment in high value-added sectors.\n\nStaff thanks the Cypriot authorities and interlocutors for informative discussions and cooperation during the mission.\n\n---\n\n\n References\n\n- Cyprus and the IMF\n- IMF Policy Advice -- A Factsheet\n- Mission Concluding Statements\n- PRESS CENTER\n- https://www.imf.org/en/home\n\nSource: https://www.imf.org/en/news/articles/2018/10/05/mcs10518-cyprus-staff-concluding-statement-of-the-2018-article-iv-mission"
    }
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    "Published: October 5, 2018",
    "Five years after the financial crisis, the Cypriot economy has turned the page on its recovery path: growth momentum is strong and fiscal performance is robust.",
    "The economy grew by over 4 percent in 2017 and the first half of 2018, supported by tourism, professional services, and construction.",
    "Wages and property market prices are rising after an extended period of stagnation, but the pace remains very gradual, contributing to low underlying inflationary pressures.",
    "Increased domestic demand has boosted imports, widening the underlying current account deficit.",
    "Economic growth has been largely supported by external financing because the banking sector remains hamstrung by weak balance sheets.",
    "Important strides were made in addressing banking-sector vulnerabilities:",
    "Notwithstanding progress, the economy is weighed down by very high private and public debt and NPL ratios that, while declining, remain among the highest in Europe.",
    "Near-term growth:",
    "Medium-term outlook:",
    "Risks (tilted to the downside):",
    "Upside risk:",
    "Steady reduction of NPLs and high corporate and household debt is a priority.",
    "Recent legal and institutional changes:",
    "Implementation and complementary measures:",
    "Regulatory and governance needs for credit-acquiring companies and CAMC:",
    "Design of the proposed subsidy scheme (Estia):",
    "Other bank-strengthening measures:",
    "Fiscal stance and risks:",
    "Recommended fiscal rules and constraints:",
    "Health sector transition:",
    "Complementary fiscal structural reforms:",
    "Judicial reform and enforcement of commercial claims:",
    "Public sector governance and public administration effectiveness:",
    "Promoting inclusive growth:",
    "[Cyprus and the IMF](http://www.imf.org/external/country/CYP/index.htm)",
    "[IMF Policy Advice -- A Factsheet](https://www.imf.org/en/about/factsheets/imf-surveillance)",
    "[Mission Concluding Statements](https://www.imf.org/en/news/searchnews)",
    "[PRESS CENTER](http://presscenter.imf.org/)",
    "[https://www.imf.org/en/home](https://www.imf.org/en/home)"
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