Fitch revises Cyprus’ outlook to positive, affirms ‘BBB’ rating

International Rating Agency Fitch has revised Cyprus’ long-term rating to positive from stable, citing economic resilience, fiscal surpluses with continued reduction of public debt as well as the improved banking sector metrics.

In a rating action, the agency affirmed Cyprus’ long-term issuer rating to ‘BBB’. The agency upgraded Cyprus’ rating in March 2023, a rating affirmed last June.

According to Fitch, the Cypriot economy has remained relatively resilient this year, with GDP increasing by 2.5% on an annual basis in the first three quarters of 2023.

“Faster economic growth in 2H24 should translate into GDP growth of 2.7% for next year. Continued expansion in domestic demand and sizeable inflow of EU funds along with improved macroeconomic conditions among Cyprus's main trading partners, will support growth further in 2025, when we expect the growth rate to pick up to 3.0%,” it added.

However, the agency pointed out that a risk to macroeconomic developments and external finances is a further escalation of geopolitical tensions in the Middle East, which may affect investment and tourism links between Cyprus and Israel. “The latter has grown in importance as a trade partner and source of investment in recent years,” the agency added.

Fitch expects Cyprus will register a general government budget surplus this year of 2.3% of GDP, higher than the 1.7% project at the previous review in June.

“Despite the extension of support measures to mitigate the impact of high prices and assumed fiscal costs from the Mortgage-to-Rent scheme, we expect a further surplus for next year and 2025 (averaging 2.2% of GDP),” Fitch noted, pointing out that “we assess that the Cypriot authorities are committed to maintaining sufficient primary surpluses to bring about a sustained reduction of the government-debt-to-GDP ratio.”

According to Fitch, the estimate that government debt is estimated to decline to 79.6% of GDP at the end of this year, 6pp lower than at end-2022.

“We expect the debt ratio will fall to 73.5% of GDP next year, and 67.4% of GDP in 2025,” the agency added.

The agency assumes that the Cypriot authorities will preserve a sizeable liquid asset buffer, while regularly issuing bonds to cover, at least in part, upcoming debt amortisations.

“While yields on Cypriot bonds remain high, we expect the interest burden to increase at a moderate pace, with the interest-to-revenue ratio increasing from 3.4% this year to 3.9% by 2025,” Fitch said.

Furthermore, the agency cites improved Banking Sector Metrics, noting that Non-performing loans (NPLs) have continued to decline at a moderate pace, with the NPL ratio decreasing to 8.6% in August from 10.9% in August 2022 (it peaked at 50.2% in November 2014).

Moreover, stage 2 loans (loans with significant credit deterioration) have remained stable as a proportion of total loans this year, “implying that the risk of a rise of new NPL inflows is limited,” the agency said.

According to Fitch, a resolution of the uncertainty surrounding the legal framework for foreclosures, currently discussed in parliament, may support further reductions in NPLs and private sector debt ratios, which remain high but on a declining trend, with the household debt-to-GDP ratio was 69.3% in 2Q23, down from 76.3% a year earlier.

The agency also noted that positive trends in bank profitability driven by higher interest rates have translated into improvements in solvency metrics for the banking sector, with the common equity Tier 1 ratio reaching 18.9% in June, up from 17.7% a year earlier, and higher than the EU average (15.95% in 2Q23).