Standard & Poor’s ratings agency on Friday raised its long-term foreign and local currency sovereign credit ratings on Cyprus to ‘B+’ from ‘B’ on strong budgetary performance.
At the same time, S&P affirmed the short-term foreign and local currency ratings at ‘B’. The outlook is stable.
“The upgrade reflects our view that Cyprus’ economic and budgetary performance has been more positive than we expected over the past six months,” S&P said. “The government’s commitment to significant fiscal, financial sector, and structural reforms, along with assistance from its European partners in improving its debt profile, has supported this improved performance.”
The agency said it believed Cyprus’ programme would remain on track “even if there are disbursement delays by its official lenders.”
It said it estimated the island’s GDP to contract by about 3.0 per cent in 2014, compared with a previous forecast of 3.8 per cent, ”based on a robust performance in Cyprus’ tourism sector and a resilient business services sector.”
The agency warned however, that the forecast for domestic demand remained uncertain and presented a risk to public finances.
Rapid private-sector deleveraging was underway, with credit growth in households and companies contracting by over 9.0 per cent in 2013 and an average of over 8.0 per cent so far in 2014.
“High levels of strategic defaults by households on mortgage obligations, however, indicate that 2014’s stronger-than-expected consumption levels may only be temporary,” S&P said.
In addition, the asset quality of Cyprus’ banks continued to decline despite banking sector restructuring.
Non performing loans (NPLs) were at an estimated 53 per cent in August, the highest in the EU, compared with 46 per cent at the end of 2013.
High levels of NPLs also reflect the government’s decision not to create a “bad bank,” which would likely involve government backing, the agency said.
“We continue to believe that investment growth will be held back by domestic banks’ deleveraging, as well as by Cyprus’ weak legal framework for lender protection and the economy’s high credit risk which is exacerbated by high real interest rates and deflationary pressures, all leading to stress on Cyprus’ financial stability.”
If implemented, the proposed foreclosure legislation would improve Cypriot banks’ ability to seize collateral on past due loans.
“This would over time improve the stand-alone creditworthiness of Cyprus’ most important banks, enabling them to lend to the real economy.”