Cyprus on course to join the EMU

Cyprus On Course To Join The EMU

by Christoforos Christoforou, Head of the Section for Surveys and Quantitative Studies, Research and Development Center - Intercollege

After the Turkish invasion of1974 and the tragic consequences that followed, Cyprus experienced a steady and almost uninterrupted economic growth for more than two decades. This was the result of sound economic and political policies in combination with the energies and efforts of a resourceful population. Cyprus is considered today to be among the countries with a high living standard having a per capita income close to 80% of the European average.

May 2004 constitutes a landmark for the divided island as the Republic of Cyprus became a full member of the European Union along with eight other countries from Central and Eastern Europe and also Malta.

Cyprus’ next objective is to join the European Monetary Union (EMU) by 2007. To achieve this Cyprus has to meet the infamous Maastricht convergence criteria as they were laid down in the Maastricht Treaty of 1992.

Cyprus should give additional attention to public finances. To be more precise, the fiscal deficit should be less than 3% of GDP and the public debt should be less than 60% of GDP. For the past three years the fiscal deficit has been above the limit. In particular, in 2002 it was 3.6%, in 2003 it increased to 5.37% and in 2004 it is estimated to drop to 3.5%. The public debt on the other hand exceeded the limit for the past two years. The debt to GDP ratio was 63.8% in 2003 and 62.9% in 2004.

Cyprus needs to take to take some corrective measures in order to restore its macroeconomic balance. The Maastricht criteria are nominal criteria but the important thing is to understand the need for the real economy to adjust. The key lies with productivity growth through the use of technological advances and skilled labor so that real GDP can grow faster than the fiscal deficit and public debt.

There are many reasons for the current macroeconomic imbalance. The operation of the public sector, its relative size and low productivity is certainly one of them. Cyprus is a small open economy and cannot afford a large and inefficient public sector. Regardless of how politically unpopular this might be, the public sector should be streamlined and public expenditures should be aligned with economic realities.

The government will have to take critical decisions in order to achieve the ultimate objective of joining the monetary union, which will most likely test the flexibility and endurance of the Cypriot economy as a whole.

The main question for Cyprus, is whether or not it will manage to meet the required criteria in time.

Research & Development Center - Intercollege