CEIC News@lert: After the downgrading of the credit rating of Cyprus’s government debt in June 2012, the Euro Area is faced with yet another case of a member state economy headed for trouble. Statistics for the first quarter of the year from the CEIC database help to shed some light on the country’s financial health and the factors leading to this turbulence.
At the end of March 2012 Gross Public Debt amounted to EUR 21.25 billion, which is a 13% year-on-year growth. At a staggering 73% of GDP, the country’s increasing liabilities pressure Cyprus to formally request monetary assistance. While domestic debt has remained relatively stable at around EUR 13 billion in the last two years, the steep rise in overall indebtedness is mainly attributable to the portion of Foreign Public Debt. It has now reached almost 40% of the country’s debt obligation, compared to only a quarter of the total at the beginning of 2010, hence exposing one of the smallest European economies to higher credit risks. While a decrease can be observed in short-term foreign debt during the first quarter of the year, the long-term debt share has more than doubled during the same period.
Chart provided by: CEIC
The ongoing monetary and political turmoil in Greece has a lot to do with these recent developments in Cypriot government and public finances, since the two countries’ markets are closely connected. Consequently the smaller economy’s banking system is adversely affected to a great extent as the larger economy deteriorates. Cyprus’s growing default risk is noticeably becoming a topic of concern as deposits and loans of Monetary Financial Institutions’ (MFIs) show. The unusual movements in the trends of domestic and foreign finances held by MFIs are displayed below.
Chart provided by: CEIC
Deposits by other EU residents have experienced an upward spike since late 2009, reaching EUR 6.43 billion at the end of May this year. While this could generally be a sign of a stable banking system and more available funds, it is alarming that the increase is mainly due to many Greeks choosing to transfer their money to Cyprus as an alternative to their unstable local banks. Considering Greece’s possible withdrawal from the Eurozone, Cyprus could be faced with a sudden outflow of foreign deposits, which make up almost 9% of the total amount of cash held with MFIs.
What makes the economic future on the island even more unpredictable is the fact that Greece might not be able to cover the huge amount of loans borrowed from its Southern neighbor. At the end of 2011 it consists of USD 11 billion or a third of all the loans Cyprus granted to European countries. MFIs loans to other Euro area residents have also soared by 47% in the first five months of 2012 from EUR 2.90 billion to EUR 4.26 billion.
Domestic deposits, on the contrary, have seen no significant change since the beginning of the year, and at EUR 44.26 billion as of May 2012, point to the shrinking of funds and the reluctance of Cypriots to rely on local banks. Combined with a rising unemployment rate of 11.1% as of March 2012, the labour force’s opportunities for savings are diminishing even further.
The increasing reliance primarily on foreign sources of funding, and the effects of Greece’s credit distress could cause Cyprus to go down the wrong path as well. The situation is not facilitated by the locals’ inability to save and other EU residents’ heavy borrowing from the island. Hence, monitoring developments in the Cypriot government finances and monetary statistics would be of utmost importance in the coming months.