27/03/2013 09:22
Despite the haircut on deposits of €5.8 billion, Cyprus is still facing a risk of fiscal derailment due to recession.
This is what Fitch said, placing Cyprus's Long-term foreign and local currency Issuer Default Ratings (IDRs) of 'B' and Short-term IDR of 'B' on Rating Watch Negative (RWN). At the same time, the agency has revised the Country Ceiling to 'B'.
According to the agency’s announcement, the RWN reflects Fitch's opinion that the shock resulting from the systemic failure of Cyprus's banking system will have profound negative implications for the domestic economy, which heightens the risk to public finances.
This is notwithstanding the fact the Cyprus has agreed an outline programme with its official creditors.
“This programme improves the sovereign's near-term position from both a liquidity perspective (official funding amounts to EUR10bn, or 55% of GDP) and a solvency perspective”, Fitch added.
The decision to bail-in depositors rather than government bondholders represents a significant upfront saving for the sovereign.
Fitch has revised the Country Ceiling to 'B' for Cyprus, which effectively imposes a cap on the ratings of all issuers and transactions domiciled in Cyprus.
“However, the closure of all Cypriot banks last week, along with the likely continuation of deposit transfer restrictions this week represents a de facto imposition of capital controls in Cyprus”.
Fitch will seek to resolve the RWN once further key details of the programme have been agreed and made public, taking into consideration the following key factors:
-The medium-term economic and fiscal assumptions of the EU/IMF programme, in conjunction with Fitch's own expectations.
- The terms of the official financing and projected fiscal sources and uses over the medium term.
- The evolution and effect of capital controls in Cyprus.
- The authorities' ability and willingness to implement the deep structural and fiscal reform.
“If the programme has incorporated a sufficient funding buffer against fiscal/economic slippage and is based on conservative assumptions, the IDRs could be affirmed at their current level of 'B' given that the rating already reflects a heightened risk to solvency.s that are likely to be required under the programme”, it stressed.
Conversely, if the programme appears fragile from the outset, the higher risk of it going off track could warrant a downgrade.
In its assessment of the relevance of the assumptions within the programme and in its own financial projections, Fitch will focus on the impact of the banking system's failure on future economic growth and the implications for asset quality within the recapitalised but smaller banking sector.
Fitch's sensitivity analysis does not currently anticipate developments with a material likelihood of leading to a rating upgrade in the near term. Much further in the future, the realisation of significant off shore gas and oil reserves could significantly help the financing of fiscal deficits and place upwards pressure on the rating.
While the authorities claim government revenues to range between EUR18.5bn (102.9% of GDP) to EUR29.5bn (164.1% of GDP) in Block 12 alone, the economic viability of extraction remains uncertain and beyond the horizon of the programme.
Huge uncertainty
In its report, Fitch saidthere is considerable uncertainty over the near- and medium-term evolution of output, unemployment and the government deficit.
The pressure on banks to de-lever over the medium term is expected to exert considerable pressure on the economy with knock on effects to public finances.
“Should the current banking sector instability result in a prolonged breakdown in the domestic payments system, this would lead to a surge in corporate bankruptcy and drive a deeper GDP contraction”.
“However, it is Fitch's expectation that the residual banking system will be promptly capitalised and that capital controls will seek to allow depositors to access funds for consumption and to pay suppliers”.
Fitch assumes that the details of the programme will be agreed between the government and the EU/IMF and be ratified in parliaments of creditor countries over the coming weeks.
The agency expects that these details will be consistent with the outline agreement signed yesterday, notably with official financing limited to EUR10bn.
Fitch has not factored privatisation receipts into its public debt projections, nor possible hydrocarbon receipts in the long term; these therefore represent an upside risk.
Fitch does not anticipate social unrest to a degree that could derail the political implementation of the agreed programme.
Fitch assumes that there is no materialisation of severe tail-risks to eurozone financial stability that could trigger a sudden and material increase in investor risk aversion and financial market stress.
This is what Fitch said, placing Cyprus's Long-term foreign and local currency Issuer Default Ratings (IDRs) of 'B' and Short-term IDR of 'B' on Rating Watch Negative (RWN). At the same time, the agency has revised the Country Ceiling to 'B'.
According to the agency’s announcement, the RWN reflects Fitch's opinion that the shock resulting from the systemic failure of Cyprus's banking system will have profound negative implications for the domestic economy, which heightens the risk to public finances.
This is notwithstanding the fact the Cyprus has agreed an outline programme with its official creditors.
“This programme improves the sovereign's near-term position from both a liquidity perspective (official funding amounts to EUR10bn, or 55% of GDP) and a solvency perspective”, Fitch added.
The decision to bail-in depositors rather than government bondholders represents a significant upfront saving for the sovereign.
Fitch has revised the Country Ceiling to 'B' for Cyprus, which effectively imposes a cap on the ratings of all issuers and transactions domiciled in Cyprus.
“However, the closure of all Cypriot banks last week, along with the likely continuation of deposit transfer restrictions this week represents a de facto imposition of capital controls in Cyprus”.
Fitch will seek to resolve the RWN once further key details of the programme have been agreed and made public, taking into consideration the following key factors:
-The medium-term economic and fiscal assumptions of the EU/IMF programme, in conjunction with Fitch's own expectations.
- The terms of the official financing and projected fiscal sources and uses over the medium term.
- The evolution and effect of capital controls in Cyprus.
- The authorities' ability and willingness to implement the deep structural and fiscal reform.
“If the programme has incorporated a sufficient funding buffer against fiscal/economic slippage and is based on conservative assumptions, the IDRs could be affirmed at their current level of 'B' given that the rating already reflects a heightened risk to solvency.s that are likely to be required under the programme”, it stressed.
Conversely, if the programme appears fragile from the outset, the higher risk of it going off track could warrant a downgrade.
In its assessment of the relevance of the assumptions within the programme and in its own financial projections, Fitch will focus on the impact of the banking system's failure on future economic growth and the implications for asset quality within the recapitalised but smaller banking sector.
Fitch's sensitivity analysis does not currently anticipate developments with a material likelihood of leading to a rating upgrade in the near term. Much further in the future, the realisation of significant off shore gas and oil reserves could significantly help the financing of fiscal deficits and place upwards pressure on the rating.
While the authorities claim government revenues to range between EUR18.5bn (102.9% of GDP) to EUR29.5bn (164.1% of GDP) in Block 12 alone, the economic viability of extraction remains uncertain and beyond the horizon of the programme.
Huge uncertainty
In its report, Fitch saidthere is considerable uncertainty over the near- and medium-term evolution of output, unemployment and the government deficit.
The pressure on banks to de-lever over the medium term is expected to exert considerable pressure on the economy with knock on effects to public finances.
“Should the current banking sector instability result in a prolonged breakdown in the domestic payments system, this would lead to a surge in corporate bankruptcy and drive a deeper GDP contraction”.
“However, it is Fitch's expectation that the residual banking system will be promptly capitalised and that capital controls will seek to allow depositors to access funds for consumption and to pay suppliers”.
Fitch assumes that the details of the programme will be agreed between the government and the EU/IMF and be ratified in parliaments of creditor countries over the coming weeks.
The agency expects that these details will be consistent with the outline agreement signed yesterday, notably with official financing limited to EUR10bn.
Fitch has not factored privatisation receipts into its public debt projections, nor possible hydrocarbon receipts in the long term; these therefore represent an upside risk.
Fitch does not anticipate social unrest to a degree that could derail the political implementation of the agreed programme.
Fitch assumes that there is no materialisation of severe tail-risks to eurozone financial stability that could trigger a sudden and material increase in investor risk aversion and financial market stress.
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