The data show that the Cypriot economy is recording strong growth and the banking system possesses abundant liquidity. However, this liquidity does not easily reach small and medium-sized and innovative enterprises. The banks constitute practically the only financing route in Cyprus. They cover approximately 45% of the total financing needs of businesses (non-financial corporations). The figure is particularly high when compared with the European Union average, which stands at just 27%.
The official figures of the Central Bank of Cyprus capture precisely the scale of this dependence. Total lending to non-financial corporations amounts to €13.3 billion. Of this amount, €8.3 billion is directed to small and medium-sized enterprises (SMEs). The ratio of non-performing loans to businesses stands at 2.4%.
Alternatives practically non-existent
At the same time, alternative sources of financing are practically non-existent. The European Commission stresses that Cyprus's capital market remains insufficiently developed. Financing raised through the capital markets corresponds to just 9.5% of GDP, when in the EU the corresponding figure approaches 50%. This means that companies seeking alternative forms of investment, such as equity capital, bonds or strategic investors, face serious constraints.
"Although lending to established non-financial corporations is expected to remain strong, given the abundant liquidity of Cyprus's banking sector (the highest in the euro area), the prospects of securing financing for new businesses are expected to remain subdued," comments a working document of the European Commission services accompanying the recommendations on Cyprus's economic, social, structural, fiscal and employment policy.
The Commission services find that "the insufficient utilisation of alternative sources of financing constitutes an indication of structural weakness within the framework of Cyprus's business and financial system, in creating appropriate links with domestic and foreign financing instruments for all categories of start-up enterprises, innovative or not".
Households and institutional investors
"The lack of financing options," it is added, "is exacerbated by the limited participation of households and the limited institutional participation in private investments. In the absence of an established investment culture and credible investment alternatives, households prefer to invest in real estate or keep their financial assets in savings rather than in other types of investments, as only 3% invest their financial assets in investment funds, compared with the EU average (10%). On the other hand, Cyprus's pension and insurance funds are fragmented, a situation that hinders the effective management of assets and, consequently, limits financing options for small businesses."
Encouraging Cypriot households and institutional investors to channel additional capital into the Cypriot capital market could reduce the banks' dependence on deposits, strengthen financial stability, boost competitiveness and, ultimately, promote economic growth. However, we remain far from such a shift by households and institutional investors.
Zero net private saving
A further problem is the fact that the presence of increased deposits in the banking system does not imply thriving private saving. According to the European Commission, on average, the net private saving ratio is zero, a value showing that private savings suffice only to cover the consumption of fixed capital without external borrowing. They are not, however, sufficient to finance further investment through the capital markets, at domestic or international level.
Given that domestic saving alone does not systematically suffice to finance new investment and maintain the existing capital infrastructure, combined with the volatility of the government's net saving position, Cyprus has remained a net borrower from the international community, with average borrowing of approximately 5.1% of GDP.
Criteria and Justice
The above situation, with the banks assuming a monopolistic role in financing, has side effects and creates demands as regards the management of loans.
The banks maintain exceptionally strict credit requirements and show little appetite for risk-taking. The result? Small, start-up and fast-growing businesses often find the banks' door closed.
"The strict lending requirements imposed, naturally, by traditional banks, without specialised facilities for higher-risk investments, limit the ability of new businesses without an established credit history to access loans. Moreover, financing through the capital markets remains insufficiently developed and Cyprus records one of the lowest rates in the EU," the same text stresses.
For the banks to become more flexible and take on higher risk towards businesses and households, a faster and effective framework for recovering non-performing debts is required. Today's reality shows that the issue of managing "red" loans depends directly on the institutional framework and the speed of the administration of justice. As long as the courts delay in resolving commercial disputes, the environment will remain hostile to the provision of new credit and the strengthening of entrepreneurship.
