Resurgent Cyprus takes mismanagement bull by horns

While the Greek economy remains mired in turmoil, its neighbour Cyprus has been getting down to the tough task of rebuilding its economy after its own meltdown. The ferocious conditions laid down for Cyprus by the IMF, the European Community and the European Central Bank have certainly taken their toll. But Cypriots say that they have hardened them against the choppy blue waters that have crossed the Aegean Sea.

There have been some ironic aspects to the relationship between the island and the mainland. The sale by Cypriot banks of their subsidiaries in Greece was required by the international authorities as a way of protecting Greek banks from the turmoil that hit Cyprus two years ago. But it has had the opposite effect, protecting  Cyprus from the turmoil that now envelops Greece and the government says its economy should not be confused with that of its neighbour. In fact, the island is rebuilding and growth is returning. GDP is expected to increase for the first time in six years in 2015, to 0.4 per cent after a 3.2 per cent contraction in 2014.

Among those emphasising the strength of the recovery are Wilbur Ross and Third Point Capital which have taken a punt on shares in the one-time desperate Cyprus banks.  There is talk of turnround and recovery in the balmy Mediterranean air. 

Not everyone is quite so optimistic of course. “We’ve  come from the cardiac arrest and we now need to move into rehabilitation and creating prosperity for the future,” says John Hourican, CEO of Bank of Cyprus. “After a crisis you should repair things. Complacency kicks in quickly after people believe the danger has passed. But it hasn’t. We need to keep going and rebuilding the platform for prosperity because not to do so, we would have wasted the crisis.”

Cyprus has a long way to recover to regain its former glory as a strong and buoyant financial services centre. The contraction of the economy exceeded 5 per cent at the nadir in 2013.  As the Bank of Cyprus was lurching towards bankruptcy, with depositors queuing up to take cash out of the failing bank, the government went to the Troika of IMF, EU and ECB for a €10bn rescue fund. Depositors with more than €100,000 in Cypriot banks were subjected to a bail-in, whereby deposits over €100,000 were compulsorily converted into bank equity. 

Claims in the German press that Cypriot banks had been used by Russian money launderers were used to justify what has come to be seen as a punitive measure. The government responded by organising two investigations of Cypriot banks’ money laundering policies and both found little of concern. Russian money is said to have accounted for a third of all deposits in Cyprus and Russian depositors were losers from the bail-in to the tune of €13bn. The island has a 40,000-strong Russian population and a very attractive double taxation treaty.

Those now talking up the Cyprus turnaround include finance minister, Harris Georgiades. “We are not in a crisis situation any longer, we are recovering,” he says. “We still have some way to go before we can say that we are fully recovered but we are implementing a policy of reform of consolidation and the public finances are in control. Every quarter the economy registers a better economic performance.”  

Signals that international investors have confidence in the recovery have come from the bond markets, where Cyprus successfully raised €750m of five-year cash, paying 4.85 per cent yield in 2014. The issue was more than twice over subscribed, with around Ä2bn of orders. 

Wilbur Ross, who bought into Bank of Cyprus at Ä0.24 a share, is also positive about the island’s economy. “I think Cyprus has a very good potential for turnaround if for no other reason than it has tremendous natural gas reserves…given that it has fewer than a million people in population, this could have a dramatic impact on its economy.” 

The investment turned out to be well timed as Mr Hourican has led a restructuring which shows many signs of being successful. The manager, who had formerly led a major restructuring of the investment arm of Royal Bank of Scotland, says: “We’ve recapitalised the bank, which was something most people thought we couldn’t do, we’ve put into the bank Ä1bn of new equity from some of the world’s most sophisticated investors. That creates a clear confidence marker. Having found direct investors to come into the bank’s equity is a statement of confidence in the Cypriot economy.” 

The Bank of Cyprus’ return to  the Cyprus stock exchange in December 2014 reinforced the sense of a return to normality. 

The sticking point for the gathering recovery both of Bank of Cyprus and of the Cyprus economy is the persistently high level of non-performing loans (NPLs). These stand at more than  50 per cent of loans on the island’s banks’ balance sheet and reflect poorly judged bank lending over the last decade. This scale of NPLs hampers scope for recovery. For the banks’ capacity to recover loans is dented by weak law. 

Mr Hourican calls for this to be changed. “The process of foreclosing on a property after someone has defaulted on their debts takes an inordinate length of time and therefore doesn’t present a proper moral hazard,” he says. “We need to tighten the time. This is one of the frustrations of the recovery of Cyprus and it is impeding the recovery.”  

Labour laws are also overly rigid and need to be relaxed for Cyprus to make the most of the recovery, says Mr Hourican. 

While Cyprus’ Greek neighbours still face the travails of its economic failings, Cyprus has taken the Minoan bull of past mismanagement by the horns. The result suggests optimism may be returning.