fiscal developments 2013 and medium term prospects

Cyprus: Public Finances

Ministry of Finance January December 2013

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Outline of presentation

Macroeconomic Adjustment Programme Major objectives

Main Developments in 2013 Nominal Cyclical Structural

Analysis of Developments in 2013 (ESA 95)

Analysis of Developments in 2013 (cash basis) Revised estimate for 2014 comparison to MOU target

Prospects 2015-16 comparison to MOU target

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Macroeconomic Adjustment Programme - Major Objectives Putting public finances on a sustainable path is of overriding importance in order to

stabilise the economy and to restore the confidence of companies, citizens and foreign investors in the longer-term economic prospects of Cyprus.

In this context, the objectives are: to continue the on-going process of fiscal consolidation in order to achieve a

3% of GDP primary surplus in 2017, 4% of GDP in 2018 and maintain at least such a level thereafter;

to achieve the annual budgetary targets as set out in this Memorandum of Understanding (MoU) through high-quality permanent measures, and additional measures in the outer years, in particular to reduce the growth in expenditure on the public sector wage bill, social benefits and discretionary spending, while minimising the impact of consolidation on vulnerable groups;

to this end, to fully implement the fiscal consolidation measures for 2014; to correct the excessive general government deficit by 2016; and to maintain fiscal consolidation over the medium term, converging towards

Cyprus' medium-term budgetary objective of a balanced budget in structural terms, by containing expenditure growth, improving the structure of taxation and undertaking fiscal-structural measures, including the implementation of a Medium-Term Budgetary Framework designed in accordance with EU specifications.

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Macroeconomic Adjustment Programme - Major Objectives

To this end, introduce consolidation measures totalling 10 p.p. of GDP

during 2012-16 as follows: 2012-13: 6% of GDP; 2014: 2 % of GDP; and 2015-16: 1 % of GDP.

Consolidation measures for 2012-14 already specified and enacted totalling 8 % of GDP.

Ambitious fiscal commitments primary balance: 2013 - (3.1)% of GDP 2014 - (3.1)% of GDP 2015 - (2.1)% of GDP 2016 - +1.2% of GDP

Place debt-to-GDP ratio on a downward path over the medium term.

Long term fiscal sustainability

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Developments in 2013

Budget balance was contained to 5.4% of GDP in 2013 compared to 6.4% the year before.

Primary balance fell to -2.0% of GDP compared to 3.2% the year before.

Debt to GDP rose considerably to 111.5% in 2013 from 86.6% the year before attributed among other to the recapitalisation of the financial sector as well as to the snow ball effect.

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Output gap is estimated to have turned negative reaching 3.5% of potential output.

Consequently the cyclical adjusted balance exhibits an improvement of the order of 2 p.p. of GDP falling to -4.1% in 2013 from -6.1% the year before.

The underlying fiscal stance was positive reaching 2.5 p.p. of GDP in 2013.

The structural budget balance was contained to a deficit of 2.9% of GDP in 2013 compared to 5.2% the year before, exhibiting an improvement of 2 p.p. of GDP in structural terms.

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Overall, the outcome in 2013 is better than forecast.

General Government Budget Balance (GGBB) exhibited an

improvement with the deficit falling to 897 million in 2013 compared to a deficit of 1,135 million the year before. As a percentage of GDP, the GGBB improved by about 1 p.p. of GDP falling to -5.4% from -6.4% in 2012.

Revenue

Total revenue fell in absolute terms to 6,656 million in 2013

from 6,974 million the year before exhibiting a negative rate of growth of 4.6% explained by the developments in the economy as well as by the implementation of a series of measures on the revenue side estimated at about 2 p.p. of GDP.

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Developments in 2013 - Revenue Total taxes exhibited a negative rate of growth of 6.2% falling to

4,313 million in 2013 from 4,597 million the year before brought by lower receipts in Taxes on production and imports as well as Current taxes on income and wealth.

Taxes on production and imports exhibited a negative rate of growth of 9% falling to 2,396 million in 2013 from 2,633 million the year before brought by a contraction in VAT receipts of about 9% as well as to a fall in revenues from land and survey fees, stamp duties, registration of companies and social cohesion. Overall excise duties stagnated as rate increases were offset

by a fall in consumption. Current taxes on income and wealth exhibited a negative rate of

growth of 2.3% falling to 1,916 million in 2013 from 1,962 million the year before brought by a substantial contraction in individuals income tax receipts of about 25% and capital gain tax receipts offset somewhat from increased receipts in property taxes and withholding taxes on interest. Corporate tax receipts performed relatively well exhibiting a fall of about 2%.

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Developments in 2013 - Revenue

Social Security Fund Contributions exhibited a negative rate of

growth of 2.4% falling to 1,475 million in 2013 from 1,510 million the year before brought by the developments in the labour market, specifically by the reductions in the compensation of employees (total economy) and in employment levels estimated at around 5% and 5% respectively.

Other current resources stabilised at around last years level of

757 million in 2013 attributed to higher than anticipated transfers from the EU budget offset by the non occurrence of one-off events of 2012.

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Developments in 2013 - Expenditure Total expenditure exhibited a negative rate of growth of 6.9%

falling to 7,553 million in 2013 from 8,109 million the year before brought by a series of measures introduced on the expenditure side such as on wages and salaries, social schemes as well as to a prudent implementation of the 2013 budget.

Compensation of employees exhibited a negative rate of growth of 8.9% falling to 2,567 million in 2013 from 2,819 million the year before brought by the reduction in wage and salary levels, as well as by a wave off early retirements. By excluding pensions and gratuities increase, this contraction rises to 16% out of which 7% is attributed to a fall in the employment levels.

Intermediate consumption exhibited a negative rate of growth of 14.3% falling to 741 million in 2013 from 864 million the year before brought by a reduction in defence outlays and lower expenditure on desalinated water.

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Expenditure

Social transfers other than in kind exhibited a negative rate of

growth of 0.3% falling to 2,589 million in 2013 from 2,598 million the year before brought by the savings from streamlining or abolishing certain social schemes offset somewhat by an acceleration in redundancy payments and higher unemployment benefits.

Interest expenditure exhibited a negative rate of growth of 2.7% falling to 549 million in 2013 from 564 million the year before brought by the reduction in the cost of borrowing despite the increasing debt stock.

Other expenditure a negative rate of growth of 0.5% falling to

560 million in 2013 from 563 million the year before brought by the prudent implementation of the 2013 budget and the methodological treatment of signature fees offset somewhat by the compensation granted to provident funds which held deposits at ex-Laiki Bank.

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Expenditure

Gross fixed capital formation exhibited a negative rate of growth

of 21.5% falling to 347 million in 2013 from 442 million the year before brought by the significant reduction in public investment projects (base effect from the completion of various projects) from the exceptional high levels of the years before.

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Developments in 2013 (cash basis)

General Government Budget Balance on a cash basis (GGBB) was in deficit reaching 846 million during the period January-December compared to a deficit of 884m during 2012. As a percentage of GDP, the GGBB during the period under review is estimated at -5.1% compared to -4.9% the year before.

Preliminary headline figures show a slide deterioration in the period January-December of around 0.2 p.p. of GDP compared to the previous year.

This is attributed to a series of one-off factors. One off factors both on the revenue and on the expenditure side

estimated at -190 million such as signature fees for the exploration of hydrocarbon reserves (180 m.) as well as increased outlays for gratuities (-39 m.), state aid provided to Cyprus Airways (-40 m.), compensation to provident and pension funds with deposits held at ex-Laiki Bank (-221 m.) and dividend income from SOEs (-70 m.) impact negatively on the budget balance.

Excluding one off factors budget balance shows an improvement in the period January-December of about 1 p.p. of GDP compared with the corresponding period of last year.

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Developments: January December 2013

Jan. - Dec. Jan. - Dec. % change

2012 2013

mln mln 2013/2012

1. REVENUE AND GRANTS (2+14) 6,592.9 6,451.9 -2.1

2. REVENUE (3+13) 6,487.1 6,290.5 -3.0

3. CURRENT REVENUE (4+12) 6,487.1 6,290.5 -3.0

4. TAX REVENUE (5+8+11) 5,576.2 5,338.1 -4.3

5. DIRECT TAXES (6+7) 2,072.7 2,144.8 3.5

6. INCOME TAX 1,407.7 1,207.0 -14.3

7. OTHER DIRECT TAXES 665.1 937.8 41.0

8. INDIRECT TAXES (9+10) 2,499.9 2,297.6 -8.1

9. IMPORT DUTIES 28.5 16.8 -41.1

10. OTHER INDIRECT TAXES 2,471.4 2,280.8 -7.7

Excises 588.0 590.6 0.4

V.A.T. 1,530.9 1,391.4 -9.1

Other 352.4 298.8 -15.2

11. SOCIAL SECURITY CON'TIONS 1,003.5 895.7 -10.7

12. NON TAX REVENUE 911.0 952.4 4.6

13. CAPITAL REVENUE 0.0 0.0 0.0

14. GRANTS 105.7 161.4 52.6

1. EXPENDITURE AND NET LENDING (2+16) 7,476.7 7,297.7 -2.4

2. EXPENDITURE (3+13) 7,476.7 7,297.7 -2.4

3. CURRENT EXPENDITURE (4-12) 7,100.0 7,033.2 -0.9

4. WAGES AND SALARIES 1,907.2 1,774.5 -7.0

5. OTHER GOODS AND SERVICES 513.7 478.2 -6.9

7. INTEREST PAYMENTS 652.6 573.5 -12.1

8. SOCIAL SECURITY PAYMENTS 1,497.1 1,568.0 4.7

9. PENSION AND GRATUITIES 635.8 685.7 7.9

11. OTHER CURRENT TRANSFERS 1,664.0 1,719.8 3.4

13. CAPITAL EXPENDITURE (14+15) 376.7 264.4 -29.8

18. OVERALL BALANCE -883.8 -845.8

as % of GDP -4.9 -5.1

19. PRIMARY BALANCE -231.2 -272.2

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Developments: December 2013

Dec. Dec. % change

2012 2013

mln mln 2013/2012

1. REVENUE AND GRANTS (2+14) 914.9 853.7 -6.7

2. REVENUE (3+13) 881.1 792.9 -10.0

3. CURRENT REVENUE (4+12) 881.1 792.9 -10.0

4. TAX REVENUE (5+8+11) 629.8 649.4 3.1

5. DIRECT TAXES (6+7) 317.4 352.6 11.1

6. INCOME TAX 247.4 268.2 8.4

7. OTHER DIRECT TAXES 70.0 84.4 20.5

8. INDIRECT TAXES (9+10) 229.4 208.6 -9.1

9. IMPORT DUTIES -1.4 10.8 884.8

10. OTHER INDIRECT TAXES 230.8 197.8 -14.3

Excises 29.0 29.9 3.1

V.A.T. 175.8 140.0 -20.3

Other 26.1 27.9 7.0

11. SOCIAL SECURITY CON'TIONS 83.0 88.2 6.2

12. NON TAX REVENUE 251.3 143.6 -42.9

13. CAPITAL REVENUE 0.0 0.0 0.0

14. GRANTS 33.8 60.8 79.9

1. EXPENDITURE AND NET LENDING (2+16) 1,054.4 1,103.1 4.6

2. EXPENDITURE (3+13) 1,054.4 1,103.1 4.6

3. CURRENT EXPENDITURE (4-12) 957.6 999.7 4.4

4. WAGES AND SALARIES 261.3 248.0 -5.1

5. OTHER GOODS AND SERVICES 81.7 91.0 11.4

7. INTEREST PAYMENTS 63.6 38.5 -39.5

8. SOCIAL SECURITY PAYMENTS 211.8 251.5 18.8

9. PENSION AND GRATUITIES 84.9 91.6 7.8

11. OTHER CURRENT TRANSFERS 232.6 231.3 -0.6

13. CAPITAL EXPENDITURE (14+15) 96.8 103.3 6.7

18. OVERALL BALANCE -139.5 -249.3

as % of GDP -0.8 -1.5

19. PRIMARY BALANCE -75.9 -210.9

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Developments: January-December 2013 Revenue Income tax receipts fell to 1,207 m. during the period under review, exhibiting a decline of 14% compared to the corresponding period of last year (2012: 1,408 m.) Negative rate of growth of corporate

tax revenues in the period under review vis--vis the year before exhibiting a decline of -4.9%, attributed to falling profitability in the corporate and financial sectors.

Capital gains tax receipts and land and survey fees continue to exhibit double digit negative growth rates, reflecting the developments in the property market. Cumulative decline from peak 95% and 85% respectively.

Personal Income tax receipts exhibited a negative growth rate of 20% during the period under review compared with the corresponding period the year before due to a reduction in employment and wage levels brought by the universal reduction in wages and salaries in the public and broader pubic sector.

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Developments: January-December 2013 Revenue

Other Direct Tax receipts reached 938 m. during the period under review, exhibiting an increase of 41% compared to the year before (2012: 665 m.) Reduction in wages and salaries introduced

in 2013 accounted for an increase in other direct taxes of the order of 149 m.

Contribution for health care introduced in mid 2013 accounted for an increase in other direct taxes of the order of 8 m.

Defence fund levy exhibited a rate of growth of 11.9% mainly due to increases in the tax rates of withholding tax on interest and deem dividend distribution.

More specifically withholding tax on interest receipts accelerated increasing by about 27% during the period under review as the tax rate was increased in Q2 of 2013 from 15% to 30%.

Deem dividend distribution exhibited a decelerating growth rate falling to about 5% during the period under review despite sequential increases in the rate of tax. This is attributed mainly to declining profitably of the corporate sector and more specifically of the financial sector as well as to the anticipated decline in the rate in 2014.

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Developments: January-December 2013 - Revenue

Indirect tax receipts reached 2,298 m. during the period under review exhibiting a decline of about 8% compared to the year before (2012: 2,500 m.) Excise duty rate increases in

tobacco, alcohol and petroleum products contributed to a restrained positive growth rate of excise duty revenues amounting to 0.4% fairing better than a forecast decline of 4.4% due to an anticipated bigger fall in consumption.

VAT receipts (net) exhibited a negative growth rate of 9.1% falling to 1.391 m. in 2013 from 1.531 m. the year before mainly due to a substantial fall in electricity consumption (-17%), manufacturing (-23%) and construction demand (-33%) as well as higher refunds (2012: 170 m. vs 2013: 220 m.).

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Social security contributions reached 896 m. during the period under review, exhibiting a decline of 11% compared to the previous year (2012: 1,004 m.) attributed to reduction in employment and wage levels.

Overall negative rate of growth (-4%) of tax revenues reaching 5,338 m. compared to 5,576 m. the year before.

Marginally negative growth of total revenue, reaching 6,452 m. during the period under review compared to 6,593 m. in 2012.

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Developments: January-December 2013 - Expenditure Overall expenditure growth in the

negative exhibiting a decline of 2.4% during the period under review vis--vis the year before, reaching 7.298 m. compared to 7.477 m. the year before despite a series of one off expenditure increasing measures.

Wages and salaries exhibited a negative growth rate 7% falling to 1.774 m. in 2013 compared to 1.907 m. the previous year. This is mainly attributed to freezing of emoluments in conjunction with a wave of early retirements manifested in growth of pensions and gratuities as per slide 23.

Goods and services exhibited a fall of 6.9% during the period under review vis--vis the year before due to lower expenditure on desalinated water and operating and maintenance expenditure falling to about 478 m. in 2013 vis--vis 514 m. the year before.

Developments: January-December 2013 - Expenditure (employment in Central Government)

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Employment level in the CG (excl. state owned enterprises) fell by 3.3% and 2% during 2013 and 2012, respectively. Therefore, employment in the CG was decreased by 1678 civil servants during 2013 and by 1046 during 2012.

Developments: January-December 2013 - Expenditure (employment in the broad public sector)

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Developments: January-December 2013 - Expenditure

Current transfers exhibit a positive growth rate attributed to the compensation of provident funds which held deposits at ex-Laiki Bank (221 paid during Oct-Dec) partly offset by lower transfers due to targeting of social schemes and lower transfers to other central government bodies, as well as local authorities. This expenditure category exhibits an increase of 3.4% during the period under review vis--vis the year before Excluding this one off expenditure item (compensation of provident funds) the category exhibits a decline of about 10%.

Capital expenditure continued to exhibit negative growth rates above forecast partly due to the significant reduction in public investment projects (base effect from the completion of various projects) as well as lower expenditure for land annexation and on purchases of defence equipment.

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Developments: January-December 2013 - Expenditure

Positive rates of growth were recorded in pension and gratuities and social security payments reaching 7.9% and 4.7% respectively, vis--vis the year before due to: Acceleration of

early retirements (one-off effect)

Developments in the labour market redundancies (12-18 months to 9-12 months) and unemployment.

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Developments: January-December 2013 - Expenditure (gratuities)

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Forecast Revision for 2014

In accordance with the latest macroeconomic scenario, the budget balance is estimated to rise to 5.8% of GDP in 2014 compared to 5.4% the year before.

Primary balance to remain at lest years level as a percent to GDP at about -1.8%.

Debt to GDP ratio is anticipated to peak in 2014 rising to 122% from 111.5% the year before attributed among other to a high primary deficit and the snow ball effect.

One-off factors of about 0.2 p.p. of GDP deficit increasing have been factored into the baseline projection.

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Further Revisions

Further revisions of public finances have already been adopted following the third review due to a sustained over performance in public finances.

The estimated over performance from the initial target of 2013 is about 2 p.p. of GDP.

This over performance was translated into tightening the target for 2014 from a primary deficit of 4.1% of GDP (April 2013) to 1.8% (April 2014).

Flexibility to adjust to economic activity under performance in the area of 3 p.p. of GDP.

Fiscal buffers incorporated in the programme in the area of 1

billion euro.

Size of fiscal gap in the outer years to be estimated.

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Revised Forecast 2014-16 3rd review in mn

2014 2015 2016

q1 q2 q3 q4

TOTAL REVENUE 1,482.1 1,595.9 1,728.4 1,721.7 6,527.8 6,479.0 6,799.7

Taxes on production and imports (1) 532.3 574.3 593.4 628.0 2,328.0 2,404.0 2,537.8

Current taxes on income and wealth, etc (2) 411.6 303.5 555.4 514.5 1,785.0 1,809.0 1,892.0

Social contributions (3) 394.9 381.3 373.4 330.3 1,479.9 1,493.0 1,528.0

Other current resources (4) 142.5 336.0 205.9 248.6 933.0 771.0 839.8

of which

a. Other current resources * 48.8 228.9 72.5 70.8 421.0 400.9 436.7

b. sales 93.6 107.1 133.4 177.9 512.0 370.1 403.1

Capital transfers received 0.8 0.7 0.2 0.2 1.9 2.0 2.0

TOTAL EXPENDITURE 1,625.0 1,747.4 1,906.2 2,164.5 7,443.0 7,456.8 7,270.4

Total current expenditure 1,544.7 1,649.9 1,808.9 1,997.7 7,001.0 7,057.2 6,859.3

of which

a. Intermediate consumption 168.1 181.0 190.1 260.7 799.9 809.0 785.5

b. Compensation of employees 547.5 554.5 579.0 724.5 2,405.5 2,357.0 2,323.0

c. Social transfers other than in kind 577.4 693.1 636.4 772.9 2,679.8 2,726.0 2,613.1

d. Social transfers in kind 3.6 3.0 1.8 1.7 10.1 10.0 10.0

e. Interest 137.8 109.0 326.8 64.8 638.4 638.8 671.2

f. Subsidies 32.1 14.0 17.8 26.2 90.1 90.0 90.0

g. Other current expenditure 78.1 95.3 57.0 146.8 377.2 426.4 366.4

Total Capital Expenditure 80.3 97.6 97.3 166.8 442.0 399.6 411.1

of which

a. Gross fixed capital formation 63.4 76.9 84.9 135.1 360.3 374.8 389.8

b. Other capital expenditure 16.9 20.6 12.3 31.8 81.6 24.8 21.3

General Government balance (ESA95) -142.9 -151.6 -177.8 -442.9 -915.2 -977.8 -470.7

% GDP -0.9 -1.0 -1.1 -2.8 -5.8 -6.0 -2.8

General Government primary surplus -5.0 -42.6 148.9 -378.1 -276.8 -339.0 200.5

% GDP 0.0 -0.3 0.9 -2.4 -1.7 -2.1 1.2

2014 targets

Quarterly

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Debt developments and prospects

Public Debt was 111.5% of GDP in 2013 and its estimated to reach 120.4% of GDP in 2014.

From 2015 onwards Debt is estimated to follow a declining trend, falling to 111% of GDP in 2016.

Primary balance was -2% of GDP in 2013 and its estimated to decline at -1.8% in 2014 and then reach -2.1%n of GDP in 2015.

In 2016 primary balance is estimated to turn positive, reaching 1.2% of GDP.

fiscal developments 2013 and medium term prospects

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