BOCY tells gov’t to act now!
In an unprecedented move, but not unjustified, the island’s biggest lender, Bank of Cyprus, felt it necessary to issue an announcement this week warning the government of the dire consequences if measures are not taken immediately to bring its fiscal situation in order.
The bank has suggested that the last two downgrades by Moody’s and Standard and Poor’s, and an impending one from Fitch, was primarily due to the government’s inability to implement measures to shore up public finances, control spending and cut down on a monolithic civil service.
Ignoring all the warning signals, the current administration has even suggested that it will not face any fresh funding needs until December, not realising the maturity of more than 600 mln euros in debt due in January and February 2012, by when if drastic measures are not taken, to reduce the budget deficit, Cyprus will surely be heading towards disaster and in need of a bailout.
Confident that apart from the local sources of financing, it has also tested the Russian market with the recent auction of 60 mln euros worth of bonds, the government may get cocky and think that it can rely on funds from Russia to cover its future financing needs as well.
Market watchers regard the Bank of Cyprus as probably the only financial institution that is able to fund the government’s finance needs, which is also why it resorted to issuing the statement saying that “it would be catastrophic to ignore [the rating agencies] at a time when all of the Euro zone accepts their influence and determines new policies that aim to appease the markets.”
“Through our inaction, we are risking the prospect of refinancing the state and the consequences will be immediate and dire. There is a real threat of joining the EU support mechanism, with all the negative repercussions,” the bank said, adding that in the long term the island could lose its status as a regional business centre within a ruthless international environment.
Moody's said it would consider a rating upgrade if Cyprus introduced sweeping structural reforms in its social insurance and state pension system and public sector wage bill, and recorded significant and lasting cost savings. S&P warned another cut was possible, deepening economic gloom for the island struggling with its worst peacetime disaster and mounting speculation it might be forced into an EU bailout. Fitch, that has warned it too would proceed with a downgrade, said it wants to see the fiscal policies of a new cabinet and that it is in favour of more fiscal consolidation.
Problems related to the imbalance in the social insurance and pension scheme transfers and the growing cost of maintaining a disproportionately large civil service, have also been raised by fact finding teams from the International Monetary Fund for more then a decade now, suggesting that Cyprus also get rid of some of its semi-government assets and privatise many competitive services.
And the warnings do not stop there. Both the Cyprus Chamber of Commerce (KEVE) and the Employers and Industrialists Federation (OEV) have been calling for urgent measures, saying that they are already paying the price of the government’s inaction and would be ready to share more of the cost burden, as long major reforms are introduced and the gap between civil servants and private sector employees is narrowed.
BAILOUT THREAT
Cyprus may soon have to seek an international bailout, becoming the fourth state in the euro zone to request a rescue if it does not take urgent action to repair its finances, the Bank of Cyprus warned on Monday.
Since the euro zone's sovereign debt crisis erupted last year, the EU and the IMF have announced multi-year bailouts of Greece, Ireland and Portugal totalling 382 bln euros.
A rescue of Cyprus, which accounts for only about 0.2% of the 17-nation euro zone's economy and earlier this year was expected to have gross financing needs of roughly 2 bln euros for 2011, would not strain Europe's resources.
But it would be an unwelcome reminder of how the region's debt crisis can spread as problems in one country affect other states. All three major credit rating agencies have downgraded Cyprus in the last several months because its banks are sitting on an estimated 5 bln euros in Greek sovereign debt and its economy is heavily exposed to Greece through trade.
On Friday, Standard & Poor's downgraded the island again by one notch to BBB+ and warned that another cut was possible, citing the government's inconsistent commitments to spending cuts as well as exposure to Greece.
Talks on spending cuts were left in disarray last week, as opposition parties accused the government of backtracking on reform pledges and the cabinet tendered its resignation in response to public anger over a munitions blast that destroyed the island's biggest power station, causing an energy crisis.
NO BAILOUT TALKS
The European Commission said in a statement that a financial assistance programme for Cyprus was not being discussed, adding: "We are confident the Cypriot authorities will fulfill their commitments" to cut the budget deficit.
The Finance Ministry said Cyprus had no significant funding needs until mid-December and would continue efforts to find additional financing, domestically and internationally, for requirements after then.
In the wake of the destruction of the Vassiliko power station, Cyprus may receive EU funds for infrastructure development, which could reduce pressure on it to seek a financial bailout. Also, the government has traditionally been able to rely on cash-rich local banks to buy much of its debt.
Nevertheless, soaring bond yields on Monday showed some investors were speculating about the possibility of severe financial trouble. A euro-denominated 10-year government bond issued to international investors in February 2010 was bid at 10.54% on Monday, up from 9.71% on Friday and around 6.20% in mid-May.
Central bank governor Athanasios Orphanides warned authorities two weeks ago that a bailout was likely without immediate action to correct fiscal imbalances.
But that forecast was made before the July 11 munitions blast slapped the state with a bill which, according to opposition parties, could reach 3 bln euros. Preliminary finance ministry assessments have slashed the island's growth outlook this year to zero from expansion of 1.5%.
Analysts believe Cyprus cannot continue financing itself over the long term if it has to return to the market at current yields. Credit default swaps for Cyprus, used to insure against the threat of a sovereign default, hit a record high of 707 basis points on Monday, more than triple their January level and closing in on levels near 1,000 bps for the euro zone's weakest states, according to data monitor Markit.
