Nicosia should continue fiscal support measures to mitigate COVID-19 economic scarring and focus on digitisation and transition to a green economy as recovery takes hold, the International Monetary Fund said.
Following a consultation, the IMF said that after a 5.1% GDP recession in 2020, the Cypriot economy is estimated to grow by 3% and accelerate by 3.9% in 2022 with “significant risks tilted to the downside.”
The IMF said that despite the economy’s dependence on tourism, high private and public debt levels, widespread defaults and high unemployment have largely been avoided, thanks largely to timely policy support and balance sheet buffers accumulated before the COVID-19 crisis.
“The near-term outlook points to a gradual but uneven recovery, with significant risks on the downside,” the IMF stressed.
It said key uncertainties are associated with the pace of the vaccine rollout and potential new waves of infection.
The Fund noted that a weakening of the underlying fiscal position leading to increased risk premia and a larger than expected drop in foreign direct investment inflows due to the termination of the Cyprus Investment Program could further dampen the recovery.
“Given the high economic uncertainties, a premature withdrawal of fiscal support should be avoided.
“With near-term financing risks limited, policies need to cushion the adverse impact of the crisis and mitigate risks of economic scarring.
“To this end, the fiscal stance in 2021, which includes continued sizeable policy support, is appropriate”.
However, the IMF underscored that recalibrating fiscal support measures to target viable but vulnerable firms (such as in the tourism sector) would help avoid “unnecessary bankruptcies”.
Efforts to front-load mature public investment projects while promoting private investment through utilising the EU’s RRF are welcome.
As the recovery takes hold, the focus should shift to maintaining fiscal sustainability and promoting inclusive, growth-enhancing policies, the IMF said.
“Efforts should continue to further modernise tax administration, contain the growth of the public wage bill, and reorient spending in a more growth-friendly direction, including by improving human capital, facilitating digitalisation, and transitioning to a green economy.”
In the banking sector, the IMF said that non-performing loans (NPLs) resolution and sustainable debt workouts “remain key priorities”.
“Close monitoring and transparency for assessing and addressing asset quality should be continued.”
The IMF called for continued progress with complementary judicial reforms needed to improve collateral execution and incentives for debt workouts.
“A reversal of reforms to the foreclosure framework should be avoided, as failure to do so would obstruct ongoing NPL resolution and pose risks for financial stability”.
According to the IMF, as the Estia scheme (to subsidise homeowners in mortgage arrears) approaches its conclusion, banks should get tougher.
“Banks should consider stepping up foreclosure on NPLs of borrowers who did not apply for the scheme, while the authorities should ensure further burden-sharing or consider targeted support measures for applicants deemed unviable.”
It also recommended targeted credit support measures such as interest subsidy schemes for SMEs, and guaranteed loans are needed to incentivise banks to supply much-needed credit.
“Support measures should seek to ensure the viability of firms, fully utilising banks’ assessments of the creditworthiness of borrowers.”