DBRS Ratings GmbH (DBRS Morningstar) has confirmed the Republic of Cyprus’s Long-Term Foreign and Local Currency – Issuer Ratings at BBB (low). At the same time, DBRS Morningstar confirmed the Republic of Cyprus’s Short-Term Foreign and Local Currency – Issuer Ratings at R-2 (middle). The trend on all ratings, it added, is Stable.
In a statement, DBRS said that the Stable trend reflects DBRS Morningstar’s view that risks to the ratings are broadly balanced despite the considerable deterioration in economic performance and public finances caused by the global Coronavirus Disease (COVID-19).
Following a period of robust economic growth, Cypriot GDP contracted sharply by 5.1% in 2020, although less severely than the euro area. The fiscal surplus turned to a deficit of 5.8% of GDP in 2020 and the public debt-to-GDP ratio rose to a still manageable 119.1% in 2020.
It said the still challenging pandemic situation in the first months of this year, requiring tighter restrictions and additional support measures, led to adverse revisions to growth and fiscal deficit forecasts in 2021. Nevertheless, DBRS Morningstar expects the Cypriot economy eventually to recover from the COVID-19 shock and the increase in the public debt ratio to reverse, although the pace of the economic recovery, particularly that of the tourism sector, remains uncertain and dependent on successfully controlling the virus.
It notes that notwithstanding the turbulence caused by the pandemic, Cypriot banks managed to substantially reduce their stock of non-performing exposures (NPEs) from EUR 9.1 billion in 2019 to EUR 5.1 billion in 2020, mostly through sales and write-offs. At the same time, legacy NPEs remain sizable and new problematic assets could surface as public support is withdrawn, especially as an extensive loan repayment moratorium ended in December 2020. Early indications suggest limited impact thus far.
The BBB (low) ratings are supported by Cyprus’s prudent public debt management framework, its good track record in fiscal deficit reduction, its Eurozone membership fostering sustainable macroeconomic policies, and its openness to investment encouraging a favourable business environment. Nevertheless, Cyprus also faces significant credit challenges related to still sizable legacy NPEs in the banking sector and the economy, high levels of private and public sector debt, external imbalances, and the small size of its service-driven economy, which exposes Cyprus to adverse changes in external demand, the statement added.
Furthermore, it notes that the ratings could be upgraded if economic growth and a sound fiscal position return, which would lead to the resumption of the downward trajectory in the public debt ratio. Moreover, further progress in reducing banks’ legacy NPEs and the strengthening of the banking sector would be positive for the ratings. The ratings could be downgraded as a result of a prolonged period of significantly weak growth, combined with large fiscal imbalances or materialisation of large contingent liabilities. A material reversal of the downward trajectory in NPEs could also be negative.