Cyprus Strategic Development Plan

The main objectives of the Strategic Development Plan covering the period 1999-2003 were the completion of the harmonization process and the creation of the necessary structures for the effective implementation of the acquis communautaire as well as the preparation of the economy in view of the accession of Cyprus to the EU, the parallel attainment of the three-fold goal of growth, macroeconomic stability and social cohesion, the restructuring of all sectors of the economy, the modernization of business units, the utilization of Cyprus comparative advantages, the enhancement of its competitiveness and its adaptation to emerging conditions within the context of globalization, the upgrading of the role of Cyprus as a regional and international services centre of excellence, the adaptation to the information society and the reform of the public sector. Furthermore, emphasis is placed on factors that improve the quality of life such as the environment, cultural development and the upgrading of the populations standard of health.

At the macroeconomic level, the Plans main objectives were the attainment of a satisfactory rate of economic growth, taking into account the exogenous and endogenous restrictive factors, the maintenance of conditions of full employment and the parallel consolidation of conditions of internal and external macroeconomic stability. The Plans quantitative targets were set, taking into consideration the economys growth potential, in view of the structural changes required in order to succeed in the large European internal market. Progress in the implementation of the Strategic Development Plan for the period 1999-2003 was, in general terms, satisfactory, despite the deviations observed in partial objectives set by the Plan.

More analytically, the average annual growth rate of GDP reached 3,5% in real terms, as against 4% which was the target of the Plan. The main restricting factor was the unfavorable external environment that Cyprus had to face in 2002 and 2003, which adversely affected the external demand for both tourist services and goods, and as a result the rate of economic growth was contained to 2% in the specific years, significantly lacking behind the potential rate of growth of the economy. In contrast, the favorable climate that prevailed amongst consumers and investors during the first three years of the implementation of the Plan, until the events of 11 September 2001, as well as the favorable external environment during the same period, in particular, the satisfactory economic growth in Great Britain and more generally in the EU, prevented a greater divergence from the Plans target.

From the demand side, growth was based, mainly, on domestic demand and particularly private consumption and to a lesser extent on external demand, deviating in this way from the provisions of the Plan for a more substantial contribution of external demand to growth. This deviation is mainly attributed to the reduction of tourist demand in 2002 and 2003, due to the deterioration of the external environment of Cyprus, after the events of 11th of September in the USA and the climate of uncertainty that prevailed internationally until the middle of 2003. Regarding the investment demand, a positive development constituted the relatively satisfactory expansion of fixed investment, satisfying the target of the Plan, in general. The expansion of investment in machinery and equipment, however, lacked behind the relevant target of the Plan, due to the decrease in investment in machinery and equipment in 2002, which is explained by the intense climate of uncertainty that prevailed the specific year, preventing a more positive picture.

From the sectoral point of view, the tertiary sector of services and, in particular, telecommunications, real estate and business services, financial services, trade and to, a lesser extent, other sectors of services, were the driving force of economic growth. This development complies with the Plans provisions for the upgrading of the role of Cyprus as a regional and international services centre and reflects the utilization of Cyprus comparative advantages in these sectors. Despite this, the continued partial dependence on tourism, a sector, which confirmed its vulnerable character to external and unanticipated factors during the period covered by the Plan, particularly in 2002 and 2003, implies the imperative need for a further diversification of the structure of the economy in favor of other services, beyond tourism. The manufacturing sector exhibited a small decrease during the period of the Plan, with a recovery during the period 1999-2000, which was, however, reversed in the subsequent years, a development which indicates that the Plans objectives for restructuring and modernizing the sector need more time to be achieved. The agricultural sector exhibited an increase of its production during the five-year period 1999-2003, positively affected by the favorable weather conditions that prevailed during the past three years; at the same time however, the sector also exhibited significant fluctuations, which are attributed to the fluctuations of crop production affected by the change in the prevailing weather conditions.

The satisfactory growth of the economy, under the circumstances, during the five-year period, led to a corresponding increase in the demand for labor. The gainfully employed population rose, on average, by 1,6% during 1999-2003, as compared to the Plans objective of 1,2%. Consequently, the conditions of almost full employment continued to prevail, with the registered unemployment rate fluctuating at around 3,3% on average during the period 1999-2003, while at the same time employment of foreign workers continued to increase. The rate of improvement of productivity reached 1,9% on average during 1999-2003, which is lower than the objective set in the Plan, due to the containment of the rate of improvement of productivity in particular, in 2002 and 2003, a development mainly attributed to the deceleration of the rate of economic growth.

Nominal earnings rose on average by 5,4% during the period 1999-2003, as compared to the set objective of 4%. This development is due, partly, to the significant increase in the inflation rate in 2000, as a result of external and transitory factors, which had a corresponding impact on earnings increases granted automatically through the COLA mechanism. The unit labor cost increased on average by 3,5%. The corresponding increases in nominal earnings and unit labor cost in euro fluctuated at 5,3% and 3,4%, respectively. The labor cost in the EU increased, however, by a lower rate, with earnings increasing by 3,1% annually and the unit labor cost by 2,2% on average. As a result, despite the moderation exhibited by the social partners during the recent collective negotiations, the competitiveness of the Cyprus economy with regard to labor cost further deteriorated. The inflation rate amounted to 2,9%, on average, in 1999-2003, deviating from the Plans objective, 2%. This deviation is attributed to external and transitory factors and particularly to the increases of indirect taxation in 2000, 2002 and 2003, in the context of harmonization with the minimum levels required by the acquis. In relation to this, core inflation, which excludes the external and temporary factors, fluctuated at 2%, in compliance with the target of the Plan.

A deviation from the Plans set objectives was also observed with regard to the current account deficit of the Balance of Payments. In 1999, the current account deficit exhibited a significant improvement and it was contained to 1,1% of GDP from 5,6% in 1998. Despite the satisfactory performance of tourism and other exporting services, the current account deficit widened to 3,4% of GPD in 2000, mainly as a result of the sharp increase of the oil price in international markets, in conjunction with the significant appreciation of the dollar. In 2001 a partial improvement of the deficit to 2,8% of GDP was observed, mainly due to the containment of the import demand, reflecting mainly the partial deceleration of the economy. In 2002, however, a deterioration of the conditions of external stability was observed and the current account deficit expanded to 5,4% of GDP, a development primarily attributed to the significant decrease of tourist flow to Cyprus. In 2003, the current account deficit exhibited a partial improvement and was contained to 4,4% of GDP, despite the decline in the receipts from tourism, due to the fall in imports of goods. The total external debt as a percentage to GDP rose to 35,9% in 2003 from 26,3% in 1998, a development attributed to the substantial recourse of borrowing in foreign currency during 2001, due to the lower interest rates for loans in foreign currency compared to the interest rates in Cyprus pound. However, the debt service ratio remained at low levels compared to international standards, 6,8% in 2003. Official foreign exchange reserves followed an upward trend and covered 5,3 months of imports of goods and services in 2003. This performance compares very favorably by international standards and is attributed to the increase in external or foreign currency accounts of non-residents of Cyprus.

As regards public finances, the Government recognizing the importance of fiscal consolidation and the containment of fiscal deficit for the course of the Cyprus economy prepared and applied as from mid 1999 a Fiscal Consolidation Programme, which included measures both for the containment of the rate of increase of public expenditure and the increase in public revenue. As a result of the implementation of the Programme, the fiscal deficit decreased from 4,9% in 1998 to 2,8% of GDP in 2001. The deceleration, however, of the rate of economic growth in 2002 and 2003 and the increased transfer payments to households granted in the context of the broader tax reform led to a deterioration of the fiscal stance during the past two years of the implementation of the Plan. The fiscal deficit in 2003 reached 6,3% of GDP, diverging from the target of the Plan, 2%. Public debt, excluding the intergovernmental debt, reached 72,6% of GDP in 2003. It is noted that the divergence observed with regard to the fiscal targets explains partially the deterioration of the current account balance of the Balance of Payments. In contrast, the monetary and credit objectives set were realized to a great extent and contributed to the maintenance, in general, of price stability conditions.

In general, the Plans objectives were attained in terms of the labor market and partially the level of investment. The major deviations from the set objectives concerned the rate of economic growth, external and internal stability, but were almost exclusively due to external and transitory factors; moreover, there was a deviation with regard to public finances.