The Central Bank of Cyprus (CBC) maintained its forecast for this year's economic growth rate at a steady 2.6%, highlighting the positive developments in private consumption and investments during the first few months of the current year, which offset the impact of the Russo-Ukrainian sanctions.

Furthermore, the CBC slightly revised downwards (-0.2%) the growth rate for 2024 to 2.8%, due to the expected negative impact of the new Russian-Ukrainian sanctions on the business cycle of professional services. However, the forecast for GDP growth in 2025 remained unchanged at 3.1%.

"The private consumption, although expected to slow down, is anticipated to remain a significant driver of economic growth in the coming years," emphasized the CBC.

According to the press release, the projected trajectory of GDP primarily relies on domestic demand for the years 2023-2025, and to a lesser extent, on net exports in 2023, as foreign companies operating in the technology sector, particularly those already established in Cyprus in previous years, continue to expand their business operations. Additionally, the ongoing increase in tourist revenue, which has shown a recovery to pre-pandemic levels in the first three months of the current year, also contributes to the overall outlook.

Significant contributions are expected mainly from large private investments that are currently underway, as well as projects supporting digital and green development, and other reform initiatives under the implementation of the Recovery and Resilience Plan. However, housing investments are projected to make a smaller contribution due to the government's interest rate subsidy scheme for new housing loans, which was agreed upon until the end of 2021.

In terms of inflation, the CBC predicts a significant slowdown to 3.3% in 2023, compared to 8.1% in 2022. This reduction is attributed to the anticipated further correction in energy prices, the complete normalization of disruptions in the supply chain, and the expected impact of the unified monetary policy in the eurozone on domestic demand.

It should be noted that the projected decline in inflation in 2023 is also supported by the reduced profit margins expected from companies, while further easing of inflationary pressures is anticipated in 2024 and 2025, reaching 2.3% and 2% respectively. This is due to the stabilization of energy prices, the subsequent slowdown in food prices, and the impact of the monetary policy.

Core inflation, which excludes energy and food, is expected to decrease to 3.7% in 2023, compared to 5% in 2022, and further decline to 2.6% and 2.3% in 2024 and 2025, respectively. These reductions are mainly due to the full normalization of disruptions in the supply chains in 2023 and the expected decrease in loan demand as a result of interest rate increases.

This year, a marginal decrease in unemployment is anticipated, with the rate expected to slightly decline to 6.7% of the labor force in 2023, compared to 6.8% in 2022. The Cyprus Statistical Service explains that despite the ongoing impact of the war in Ukraine, the labor market continues to experience tightness, as evident in the European Commission's monthly surveys on employment expectations for the next three months.

Looking ahead unemployment is forecasted to drop to 6.1% in 2024 and 5.6% in 2025, edging closer to full employment conditions.

When considering the likelihood of deviating from the baseline scenario outlined in the forecasts, the CBC notes a slight overall downward tendency for GDP projections and a balanced outlook for inflation during the 2023-25 timeframe.

The primary downside risks for GDP are associated with potential adverse external developments and lower-than-expected performance in non-tourism service exports due to Russian-Ukrainian sanctions.

Conversely, upside risks include the possibility of exceeding expectations in private sector investment projects and improved performance in the tourism sector.

In terms of inflation, upside risks primarily stem from the potential for higher energy prices than originally anticipated, along with the likelihood of more persistent effects arising from time lags. Specifically, for 2024 and 2025, upside risks are connected to a potential wage-price spiral, driven by higher long-term inflation expectations.

It should be noted, however, that the aforementioned inflation risks are counterbalanced by stricter-than-expected financing conditions, resulting from the anticipated negative impact on domestic demand. Additionally, the potential negative performance of non-tourism service exports due to Russian-Ukrainian sanctions further mitigates the risks.