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Moody’s: Loan guarantee scheme positive for banks as they keep control of lending

29/04/2021 14:21

Cyprus` €1 billion government loan guarantee scheme will be credit positive for banks as long as they control their lending, international rating agency, Moody’s, has said.

In its last plenary session before the May 30 parliamentary elections, the House of Representatives approved the government bill for €1 billion in guarantees.

“The loan guarantee scheme will be credit positive for Cypriot banks because it will reduce the credit risk on loans participating in the scheme, as long as banks are able to maintain independence in their loan decisions”, Moody’s said in its bi-weekly bulletin Credit Outlook, noting the scheme will help ease cash flow constraints by ensuring that the self-employed and large and small businesses have sufficient access to liquidity and funding to support Cyprus` post-pandemic recovery.

Under the scheme, the government will cover 70% of a defaulted loan, while the bank will cover the remaining 30%, meaning banks retain part of the risk for the loans they extend, while the scheme will incentivise borrowers to access cheap government-backed loans because the interest rates on these loans will be lower than current market rates.

According to Moody’, unlike some other countries in the EU, Cyprus` government-guaranteed loans will not be tailored to business size. Instead, all borrowers will be subject to the same guarantee coverage and, most probably, interest rates, while similar to other countries, the scheme will have a provision to defer repayments by 12 months to help borrowers` short-term liquidity needs.

“Banks will reap the scheme`s benefits starting in 2022 as participating borrowers begin making repayments, although banks` capital ratios may benefit sooner because of the lower risk-weighted assets assigned to these loans”, Moody’s added noting however that “many of the benefits for Cypriot banks will largely depend on how the scheme is executed.”

The agency furthermore said that if certain provisions of the law are implemented, banks` lending would be subject to control and interference by an external monitoring committee, including having to lend to the riskiest borrowers.

“Borrowers whose loan applications were rejected by a bank would have the option of appealing to the committee, which may prompt banks to opt out of participating in the scheme if they fear they could be forced to relinquish control over their lending decisions”, Moody’s said.