Money makes the world go round, but did you know that a country's credit rating is like its financial popularity score? Similar to a student being evaluated on their competencies, countries are constantly being evaluated on their creditworthiness. Credit rating agencies like Moody's, Standard & Poor's, and Fitch Ratings act as the deans of the financial world who decide which countries are in and which ones are out.

Having a good credit rating is like being the prom king or queen; in the sense that countries gain popularity as their credit rating increases. It means that other countries and investors trust a country enough to lend it money at a low interest rate. This allows the country to invest in its future and take on new projects without worrying about drowning in debt. A good credit rating makes the country more attractive in the eyes of other nations, encouraging foreign investment, boosting the economy and creating new jobs.

On the other hand, having a bad credit rating is like being the student who is on the dean’s list for poor rapport. It is challenging to maintain sustainable ties with a country that can not manage its finances. A bad credit rating can cause further complications for a country to borrow money, leading to higher interest rates and a whole lot of stress. It is like being stuck in detention while the rest of the class goes on a field trip.

The most recent example would be that of geopolitics and their impact on a single sovereign entity, as well as on the world at large. Russia’s invasion of Ukraine not only inflicted a crushing blow to the global economy, but also reduced its credit rating to a negative triple B, making its equity markets “currently uninvestable”. 

To reiterate, Russia’s decision has placed it in “detention,” for not only its impact on the global economy, but also on countries' perspectives on how increasingly untrustworthy, unreliable, and uncooperative towards the Western world the country has become.

With that in mind, Cyprus has had a turbulent rapport with credit rating agencies. Cyprus has been experiencing a fluctuating credit rating for the past decade. From a positive A+ in 2007, to a gradually declining triple B rating in 2011, and finally recovering to a stable triple B rating in 2023, Cyprus faced several challenges in securing a favorable financial reputation.

The leading factor in the country’s credit rating decline was a traumatized banking system that had become too large for the country to handle. By over-exploring Cyprus’ system’s tax incentives, its banks had accumulated €25 billion in foreign capital, most of which was invested in Greek government bonds.

In light of the global financial crisis in 2008, Cyprus was seemingly out of range of the financial crash wave, until Greece’s government debt went through the roof. Cyprus had stocked up on government bonds from Greece, exposing the island to the risks of its financial decisions. Paired with Cyprus’ political climate, Moody’s prepared to fail the island on its ability to mitigate and control the impact of the financial crisis. 

As expressed by the New York Times, “Moody’s also cited the “increasingly fractious domestic political climate” and the “material risk that at least some Cypriot banks will require state support over the medium term as a result of their exposure to Greece.”

The effect of holding Greek debt at the time led to the reduction of Cyprus’ credit rating from a consistent double A rating from 2007 through to early 2011, and then witnessed a sharp decline to a negative triple B rating by August 2011. The downgrades in the island’s credit rating continued through to the end of 2013. This can also be reflected in its GDP in 2013, in a sharp contraction of 6.6%, which led to a rising unemployment rate, from 9.9% in 2012 to 17.2% in 2013. 

Ultimately, Cyprus’ banking sector collapsed, essentially forcing the island to take on an economic adjustment program. In an effort to act fast and save the crumbling economic status of Cyprus, the European Commission (EC), the European Central Bank (ECB), and the International Monetary Fund (IMF) came together to create a solution. 

The program was designed to resolve short and mid-term financial and structural challenges by “restoring the soundness of the Cypriot banking sector and market confidence by thoroughly restructuring and downsizing financial institutions.” It also aimed to continue “fiscal consolidation in order to correct the excessive general government deficit” and to “implement structural reforms to support competitiveness and sustainable and balanced growth”.

In this instance, Cyprus was forced to adhere to the solutions provided by the European and international institutions to restore some semblance of credibility and rapport. These structural and fiscal changes were implemented over the course of 3 years which included financial support of €10 billion to bolster recapitalization and restructuring efforts.

By 2015, the adverse effects of the program were clearly visible, and not entirely favorable. A study by the University of Cyprus found that “the implementation of the adjustment programme of Cyprus is considered as successful. However, given the rather low growth prospects further reforms are required.” The paper adds that “instead of imposing upfront losses to the uninsured depositors, a long-term adjustment path in the banking sector would have been preferable, because it would have allowed the economy to adjust in a smoother manner without damaging the confidence in the banking sector.”

Today, Cyprus has been upgraded to a  Baa2 credit rating, but its recent actions may be considered questionable, especially when taking the Citizenship by Investment program into account. After authorities discovered that Cyprus was handing out passports to wealthy individuals of moral ambiguity, rating agencies seemed impartial to the practice. 

Although Cyprus was not the only country to be implementing this practice to boost its economy through foreign investment, it caught global attention and branded Cyprus as unreliable and morally questionable, to the extent that EU officials such as Senior Policy Officer for anti-corruption NGO Transparency International EU, Laure Brillaud believed that “it’s not just a few bad apples. It’s the system that is broken beyond repair.”

Considering that financial, fiscal, and structural policies and actions play a major role in a country’s credit rating, it is interesting to note that despite being under scrutiny globally, Cyprus’ credit rating was improving throughout the period in which the program took place.

This begs the question if credit ratings are entirely reliable, and if their ratings truly reflect the activities of a country. It is known that debt issuers pay the rating agencies to adjust their rates accordingly. Findings from a recent study that suggest that “agencies are overcoming the financial incentives to rate specific issues inappropriately high.” The study also suggests that the “issuer-pay” model has hurt the reputation of rating agencies, as well as their incentives behind attributing ratings to countries facing financial and fiscal challenges.

Despite doubts regarding the reliability of rating agencies, Cyprus, today, is showing a strong GDP recovery which has influenced the positive changes to its credit rating, which have stabilized at a triple B rating. Fitch rating agency finds that “the average cost of Cyprus’ public debt will rise much more slowly, given the average maturity of its debt of just under 7.5 years” indicating that the island’s banking sector is more stable and able to manage deposits in bank accounts from foreigners, and that it can scale its debt to GDP ratio more efficiently.

What is important is that rather than relying on credit rating agencies to support Cyprus’ cause in attracting foreign direct investments, it could learn from the agencies and adopt practices that are globally understood to boost a country’s rapport.

Recovering from a financial crisis is no easy task. It can take years, and its adverse effects even longer. However, with support from international financial institutions such as the ECB and IMF, and with more transparent and globally acceptable practices, Cyprus can continue to improve its economy, in hopes of rising to the top of the class, back to the A ratings it had achieved in the early 2000’s.