Primary navigation:

QFINANCE Quick Links
QFINANCE Reference
Add the QFINANCE search widget to your website

Home > Blogs > Mindful Money > What now for Cyprus and its economy? A downwards wage-price spiral?

What now for Cyprus and its economy? A downwards wage-price spiral?

What now for Cyprus and its economy? A downwards wage-price spiral? Mindful Money

Sometimes events in a single country can illustrate a multiple number of the themes of this blog even if the country is as small as Cyprus. Back in the spring of this year it was “rescued” by its partners in the euro area, and since then it has received one of the worst economic harbingers that a country can receive. From the European Commission (and the emphasis is mine):

"Staff concluded that Cyprus’ economic adjustment program is on track."

I take that as confirmation of my initial forecast that the outlook for the economy of Cyprus is simply horrible. It may even exceed the declines seen in its near neighbor Greece.


The next theme is that such countries find themselves mired in an enormous amount of debt which, in spite of its size, never turns out to be quite enough. For example, more and more officials and politicians are talking openly about yet another bailout for Greece. The current state of play for Cyprus is summarized here:
"Cyprus has now received a total of €4.5 billion in European Stability Mechanism (ESM) financial assistance out of a total committed amount of approximately €9 billion."

So such a small island is being increasingly weighed down by a heavy debt burden, and there will be another 1 billion euros to be added from the International Monetary Fund (IMF) too. The catch, as you can see, is that it is going rather fast - which has the implication that more will likely be called for. But even now, it is an enormous extra burden as at the end of the first quarter of this year the national debt of Cyprus was 15.34 billion Euros - so the rescue has added around 30% to this already. Before the crisis, Cyprus had a relatively good national debt to economic output ratio - but it had already risen to 86.9% and is currently moving, as the Billboard charts would put it,with a bullet.

Creating another credit crunch

You might think that, having seen the effects of the 2007/08 credit crunch echo destructively around the world for the past five or six years, the authorities would move heaven and earth to avoid a repetition. However, you would be wrong as this is exactly what has been applied to Cyprus.

At the end of 2012, total deposits at Cypriot banks were 70.16 billion euros; and at the end of September, they were 48.3 billion for a fall of 31% in nine months. I think we can call that a credit crunch! What would Milton Friedman say about prospects for Cyprus if he were still alive?

Tucked away in this, deposits by Cypriots have also fallen heavily, such that the lending so far by the ESM (4.5 billion euros) represents over 13% of their total of 33.58 billion euros. The former will continue to surge whilst the latter has already fallen by 22% so far in 2013.

We also have another feature of a credit crunch which is that, in spite of the official intervention mentioned above and the fact the official ECB interest rate is 0.5%, ordinary people and companies face much higher ones. This was my first theme on this blog if I recall correctly.

This is in full force in Cyprus where a mortgage in August, according to its central bank, had a typical interest rate of 5.86%. These have also been rising, which you might not expect when you look at all the centrally planned intervention, but you would if you simply Googled the words 'credit' and 'crunch'. There was an initial dip but then they moved higher.

You do not need to take my word for it as the Governor of the central bank, the conveniently named Panicos Demetriades, met the banks on the 27th of September and this was part of the agenda:

"The discussions were conducted in a climate of mutual understanding and all credit institutions recognized the need for a gradual reduction in lending rates and for applying other relevant measures aiming at reducing the cost of loan restructuring in the immediate future, especially during the current difficult economic situation."

The Bank of Cyprus responded with a new lower mortgage rate offer. However it may not turn out to be as good as promised:
"Interest rate from 4.75% (APR 4.85%*). Pricing shall vary according to each client’s contribution."

I think we know about descriptions of such prices or interest-rates!

Oh the new conservative finance era in Cyprus seems to be having something of a false start:

"We reward repayment consistency by providing a discount for every 13th installment, if 12 monthly installments have been paid without delay."

But how can you get a reward if you also want to take advantage of the grace period? Sorry for the capitals which come from the documentation:

Still, I guess it will help with the non-performing loans numbers...

The Labor Market


We were told by Eurostat earlier this week that unemployment in Cyprus had risen at the fastest rate in the euro area in the year to August with the unemployment rate rising from 12.3% to 16.9%. Sadly, I expect it to go much higher - a belief which has been reinforced by these registered unemployment numbers:
"Based on the seasonally adjusted data that shows the trend of unemployment, the number of registered unemployed for September 2013 increased to 52.112 persons in comparison to 51.275 in the previous month... In comparison with September 2012, an increase of 13.151 persons or 38,8% was recorded."

Just for clarity, registered unemployment means you register at the jobs or dole office.

What about wages?

They too have taken a downwards turn according to the latest data:
"In comparison with the second quarter of 2012, a decrease of 1,6% was recorded in the average monthly earnings of employees."

This was also a fall in real wages as inflation was pretty much flat at the end of the quarter.

So, on the definition applied by Pavlaki in a comment earlier in the week that “it is very painful to go backwards” (in living-standards), then more than a few people are currently in pain in Cyprus.

Inflation - or rather disinflation

When the crunch really hits, we have now entered a phase where inflation goes negative, and Cyprus is in that club:
"The rate of inflation for September 2013 decreased by -1,0% compared to -0,9% in August 2013 and 2,5% in September 2012. The rate of inflation is negative for the fifth time in 2013."

Whilst this will be welcomed by the embattled consumers of Cyprus, there are other implications which are not so hopeful.

Industrial Production

I mentioned these numbers before but they deserve their own billing. On a glass-half-full basis, they were the best so far in 2013 but that neatly side-steps this issue.
"The Index of Industrial Production for July 2013 reached 86,1 units (base 2005=100), recording a decrease of 12,8% compared to July 2012.

"For Manufacturing, the index for July 2013 reached 75,9 units, recording a decrease of 12,5% compared to July 2012."

So another theme of these times hits us, as one more time we see declines in industrial and manufacturing production. Compared to the average for 2005, they are at 86.1% and 75.9% respectively.


So many of the themes of this blog come together in what might be called a perfect storm for Cyprus. Except, of course, the results are a doppelganger of perfection. In essence the euro area cried “save the banks” adding a new bail-in phase for larger depositors. The catch is that the credit crunch reverberates around the economy with wages, prices, production and unemployment all adversely affected among others. What never seems to be officially admitted is that this then weakens the banks further, so the cry actually is “save the banks for now”. This was even spotted yesterday by a credit ratings agency:
"Moody’s estimates that problem loans increased to around 26% of gross loans as of December 2012, six months before the bail-in, and will increase to over 35% by year-end 2013."

Of course there is one more theme to bring in: euro area austerity, which, like a dog chasing its tail will further weaken the economy and lead to a perceived need for more austerity and repeat. At least dogs are bright enough to tire of this game and move on!

Should wages and prices continue their current downward moves and turn into a spiral, Cyprus will have the dubious privilege of being in a race with Greece to fully replicate the Great Depression of the 1920s and 30s. As the Kaiser Chiefs so aptly put it.
"And oh my god I can’t believe it,
I've never been this far away from home."

Of course, there is another way involving both default and devaluation which would give a good chance of doing this.
"Knock me down I’ll get right back up again,
I’ll come back stronger than a powered up Pac-Man..."

This blog was written by Shaun Richards and originally published in MindfulMoney under the title: What now for Cyprus and its economy? A downwards wage-price spiral?

Tags: Cyprus , euro , eurozone Crisis , IMF , inflation , International Monetary Fund , unemployment
  • Bookmark and Share
  • Mail to a friend


or register to post your comments.

Back to QFINANCE Blogs

Share this page

  • Facebook
  • Twitter
  • LinkedIn
  • RSS
  • Bookmark and Share

Blog Contributors