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Scope affirms Cyprus’ credit rating of BBB- with stable outlook

August 24, 2019 at 3:22pm
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Scope Ratings affirmed on Friday the Republic of Cyprus’ BBB- long-term issuer and senior unsecured local- and foreign-currency ratings, along with a short-term issuer rating of S-2 in both local and foreign currency, noting that all outlooks are stable.

Strong economic recovery, sustained fiscal consolidation, and euro area membership support the rating, says the credit rating agency, adding among the constraints a concentrated and externally-dependent economy, vulnerabilities in the banking sector and elevated public, private and external debt.

A relevant announcement says that Scope’s affirmation of the Republic of Cyprus’ BBB- rating reflects the country’s continued economic recovery and fiscal consolidation as well as its euro area membership.

However, it adds that a concentrated and externally-dependent economy presents risks to the stability and sustainability of Cyprus’ growth model, and subsequently its fiscal performance and financial stability. In addition, it is noted that the still elevated stock of non-performing loans (NPLs) remains a key credit weakness given the resulting vulnerabilities in the banking sector, weighing on profitability and constraining credit supply and the risk it continues to pose to public finances in the context of a high public debt burden.

Finally, Scope notes that high levels of public and private indebtedness combined with a vulnerable external position pose risks in the case of significant changes in market sentiment and a tightening of global financing conditions. The Stable Outlook reflects Scope’s assessment that the risks Cyprus faces are broadly balanced.

Outlook and rating-change drivers
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According to the rating agency The Stable Outlook reflects Scope’s assessment that the risks faced by Cyprus remain balanced at this stage. The ratings/Outlooks could be upgraded if the banking sector is further strengthened, the public debt stock is significantly reduced and/or the growth potential of the economy is raised sustainably, for instance, through the development of new high-growth-potential sectors.

Conversely, ratings/Outlooks could be downgraded if public finances deteriorate due to a reversal of fiscal consolidation, there is a fading commitment to or a reversal of structural reforms, including with regards to judiciary reform, leading to an adverse impact on the medium-term economic and fiscal outlooks; and/or banking sector fragilities re-emerge in the form of additional liabilities to the government.

“Cyprus’ economy has one of the strongest growth rates in the euro area. Real growth has averaged 4.2% YoY since the country’s exit from the EU-IMF economic adjustment programme in March 2016” it is noted.

Scope expects real GDP growth to average around 3% over 2019-21, supported by sustained foreign investment and robust domestic demand. Over the medium-run, growth is expected to moderate and converge towards the country’s potential of 2-2.5% as the pipeline of investments gradually tapers off and improved payment discipline reduces disposable income, as recently highlighted by the IMF.

While Cyprus` growth potential remains above the IMF estimates for Spain (1.75%), Portugal (1.4%) and Italy (0.5%), this also reflects Cyprus’ moderate-to-high real GDP per capita – around 75% of the euro area average – which limits the scope for faster income-convergence-driven growth.

In addition, Scope notes that the country’s growth potential remains constrained by a highly-leveraged private sector, which weighs on investment, still elevated non-performing loans, which increase banks’ risk aversion and limit domestic credit supply, lagging productivity growth, due to barriers to digital technology adoption, limited investment in productivity-enhancing areas and low R&D and shortcomings in the business environment, as highlighted by the European Commission.

Additionally, it says that any tension between Turkey and Cyprus remains a key geopolitical issue. “Formal negotiations for unification of the island have been suspended since July 2017 and Scope does not expect the two parties to come to an agreement in the near-term” says the credit rating agency.

Scope expects Cyprus’ fiscal performance to remain robust with a projected primary surplus of around 3-4% of GDP for 2019-20, slightly below the government’s 2019 Stability Programme targets, which is still the highest in the euro area.

(Cyprus News Agency)