MOODY’S ratings agency yesterday cut Cyprus’s A-2/P-1 foreign debt and deposits ratings outlook to negative from stable, citing lack of timely fiscal reform.
The effective downgrade comes hard on the heels of a damning IMF report last week which warned the government to shore up its economy ahead of European Union accession scheduled after 2003.
Moody’s said in a statement that the outlooks on the foreign currency debt ratings of Cyprus and other issuers rated at the country ceilings are also being changed to negative from stable.
Cyprus has consistently scored high ratings from Moody’s and another ratings agency, S&P, over the years. However of late the reviews were accompanied by warnings that fiscal reform had to gather pace to eliminate deficits which have been appearing for some time.
Sound ratings are considered vital when a country taps overseas markets for borrowing. In three international bond issues Cyprus capitalised on its high ratings to secure a good turnout.
But with a negative outlook hanging over it things may be different this year, should the government resort to overseas borrowing.
Moody’s said the main factors for the downward revision in the outlook were the lack of clear progress in bringing the fiscal deficit under control, the rapid expansion of bank credit, and rising external debt.
It indicated that although the House of Representatives finally approved a long-delayed increase in VAT last week, the revenue raised would be offset by a nearly equivalent amount in tax concessions designed to break the legislative deadlock.
"Agency analysts stressed that the restoration of macroeconomic stability would be vital both to ease the country’s eventual transition into the European Union and to remove downward pressure on its ratings," Moody’s said.
When parliament hiked VAT by two per cent last week it also introduced a package of tax breaks designed to cushion the impact. But the tax breaks almost eliminate any of the additional benefits from VAT — an income of £60 million from the additional surcharge against £47.2 million it is giving back in concessions.
Last week the IMF told Cyprus it had to lower its fiscal deficit to four per cent of GDP this year and to three per cent in 2001, and to curb extraordinarily high inflation levels.
Mission leader Dimitris Demekas did not mince his words about the tax concessions, and said the IMF was "disappointed" that additional revenue would be wiped out by the tax breaks.
Projected inflation of about five per cent this year is three times the EU average and a projected fiscal deficit of 4.5 per cent is also out of the guidelines dictated by the EU for countries wishing to adopt the single currency.
