The Economic Research Centre of the University of Cyprus expects the economy to continue to post robust growth in 2018 and 2019 but warns against the risk of the inter-dependence of the banking sector with the state.
In its latest Economic Outlook, the ERC said that GDP is projected to increase by 3.9% in 2018. In 2019, growth will moderate to 3.3%. The main drivers of the outlook in 2018 and 2019 include the recent strong economic performance in Cyprus, the supportive external environment, the low levels of interest rates and inflation, and the high levels of domestic and European economic sentiment.
The recent sale of the Cyprus Co-operative Bank and the newly introduced amendments to legislation regarding insolvency and foreclosures, and the sale and securitisation of loans, are expected to enhance the soundness of the banking sector, reduce uncertainty and restore depositors’ and investors’ confidence, with positive effects on economic activity, it said.
Nevertheless, significant downside risks to the outlook continue to stem from the high levels of indebtedness and NPLs as well as from the
reinforcement of the feedback loop between bank and sovereign risk.
The effectiveness in the management of problematic assets via the recently amended legal tools as well as the provisions of the proposed government subsidy scheme for vulnerable borrowers, will influence repayment culture, banking sector soundness and economic confidence, and could tilt risks to the outlook in either direction.
Moral hazard in the economy (e.g. borrowers, banks) could involve significant downside risks to both public finances and growth.
Thus, given the high level of public debt, (i) delays in the implementation of structural reforms (e.g. justice system, public administration), and (ii) the introduction of permanent government expenditures based on temporary revenues, may weaken confidence, the sustainability of public finances and growth prospects.
Other downside risks to the outlook are associated with a potential slowdown in the euro area, weaker-than-expected growth in the UK due to Brexit negotiations, and losses in the competitiveness of the Cypriot tourist product vis-à-vis other destinations. Upside risks to the outlook are associated with stronger-than-expected demand, mainly due to public and private investment projects, and domestic consumption.