Statement by the IMF Staff Representative

This 2004 Article IV Consultation highlights that economic growth in Cyprus has begun to rebound following a more modest performance in 2002–03, recovering in real terms to about 3½ percent in 2004, mainly driven by an increase in domestic demand. Real per capita income has continued to rise, now reaching above 80 percent of the average European Union 25 income level when adjusted for purchasing power. Looking ahead, growth is estimated at close to 4 percent in 2005, reflecting an improved external environment.

Abstract

This 2004 Article IV Consultation highlights that economic growth in Cyprus has begun to rebound following a more modest performance in 2002–03, recovering in real terms to about 3½ percent in 2004, mainly driven by an increase in domestic demand. Real per capita income has continued to rise, now reaching above 80 percent of the average European Union 25 income level when adjusted for purchasing power. Looking ahead, growth is estimated at close to 4 percent in 2005, reflecting an improved external environment.

1. This statement provides an update on economic and policy developments since the staff report was issued. The new information does not change the thrust of the staff appraisal.

2. Recent data for 2004 suggest that real GDP grew by 3.5 percent, in line with projections, while average CPI inflation was 2.3 percent, slightly lower than projected. At the same time, performance of the tourism sector was slightly weaker than expected, suggesting the projected 2004 current account imbalance will widen modestly.

3. The 2004 general government deficit is now estimated by the authorities to have been reduced to about 4.3 percent of GDP, well below the 4.8 percent target presented in the revised Convergence Program. This better-than-expected performance stems both from expenditure constraint (lower-than-budgeted defense and capital expenditures) and improved revenue performance, including the tax amnesty. Based on the revised Convergence Program and the 2005 budget, the Ecofin Council concluded on January 18, 2005, that Cyprus has taken effective action to correct and contain its fiscal imbalances, and that no further steps are necessary at this point under the excessive deficit procedure.

4. Looking ahead, the 2004 preliminary fiscal outturn and the ongoing implementation of the measures outlined in the Convergence Program bode well for achieving the 2005 general government deficit target of no more than 3 percent of GDP. According to the authorities, even conservative estimates suggest that the tax amnesty will yield more than 1 percent of GDP compared with a previous estimate of 0.6 percent. Furthermore, agreement has been reached on the regularization of the dividend policy of public enterprises, which should result in another 0.6 percent of GDP. Also, preliminary agreements have been reached with the relevant trade unions on the increase of the retirement age for employees in the public sector. Lastly, although the authorities feel there is a safety margin to ensure compliance with the deficit target of 3 percent of GDP, they have reiterated their readiness to take additional steps should the remaining measures outlined in the Convergence Program yield less than expected.

5. The authorities have formally requested a fiscal ROSC assessment, the timing for which is being discussed at present.

6. Discussions are ongoing between staff and the authorities on a framework under which the Fund could provide technical assistance in its areas of competence to the Turkish community in northern Cyprus.