The IMF report on the economy, public finances, and the banking sector—released yesterday following its annual visit to Cyprus—is not as convincing as it should be, particularly regarding the fiscal segment.

While the IMF mission deserves credit for its warnings about potential distortions to the legal framework for foreclosures, the banking system has little to worry about. Balance sheets have been cleared of "red loans" (NPLs), which were sold to credit acquisition companies.

The unconvincing parts of the report relate primarily to public finances. The IMF encourages the state to proceed with "gradual fiscal loosening to support growth," seemingly ignoring Cyprus's commitments to EU institutions. The European Commission imposes fiscal clauses on primary expenditures, effectively placing a "spending cap" on Cyprus between 5% and 5.5%. This "Union rule" ensures that spending does not exceed the GDP growth rate. Given that Cyprus's growth rate is currently below 5%, the IMF’s suggestion for loosening could be interpreted as a "trap."

Regarding the Central Government surplus, it is clear the IMF is ignoring Cyprus's fiscal peculiarities. Fund technocrats appear to misread the source of revenue. A large portion of the surplus stems from contributions to the Social Insurance Fund and the National Health System (GeSY). These are essentially "borrowed" funds used by the state to reduce public debt and cover inelastic expenses.

The report makes specific mention of the Cyprus-Greece electrical interconnection. It correctly notes that Cyprus’s heavy reliance on oil and a lack of interconnection contribute to high costs and emissions. However, there is no mention of geopolitical risk stemming from Turkey’s opposition, nor any suggestion on how to navigate it. Notably, the Ministry of Finance, in its subsequent announcement, commented on most of the IMF’s points but remained silent on the interconnection.

The IMF stresses the need to maintain banking resilience and avoid policy reversals that could undermine the reduction of Non-Performing Loans (NPLs). It opposes changes to the foreclosure framework, claiming they could "limit access to financing."

This claim is unconvincing. Banks have cleared their balance sheets and possess high liquidity. Coupled with high interest rates, it is unlikely they would limit lending unless a market recession occurs. Furthermore, the IMF contradicts itself: after warning of limited access to financing, it notes that the domestic loan-to-deposit ratio is only 50%, compared to an EU average of over 100%. This proves banks have a massive 50% margin to expand their loan portfolios.

Finally, while a 2.5% growth rate is mentioned, it can hardly be characterized as "strong" when it barely covers inelastic state expenditures.

The Fund correctly emphasizes the need to expedite judicial reform and highlights the importance of innovation and digital education to address the impacts of Artificial Intelligence (AI).

Source: Brief