The Central Bank of Cyprus has outlined four medium-term risks to financial stability in its 2023 financial stability report published yesterday, with one risk showing an upward trend compared to the previous year.
The report highlights continued challenges in the balance sheets of the domestic private non-financial sector, stemming from high prices and increased lending rates, coupled with an already over-leveraged private non-financial sector.
This is attributed to limited household disposable income and increased leverage of non-financial companies.
The second risk identified involves potential deterioration in financial sector asset quality, particularly for credit institutions, which could affect their profitability.
The Bank notes this could materialise if the private sector’s debt servicing capacity becomes limited or property prices decline.
The third medium-term risk concerns financial institutions’ exposure to the real estate sector, making them vulnerable to potential negative developments despite the market’s resilience.
This could be triggered by property value depreciation on balance sheets, increased credit risk from real estate sector loans, and reduced collateral values.
The fourth risk, which shows an upward trajectory, encompasses three sub-categories: climate change, cyber risks, and escalating geopolitical tensions.
These could be influenced by exposure to physical risks, increased cyber attacks, and intensifying geopolitical conflicts.
The central bank acknowledges that the ongoing Russia-Ukraine war and escalating Middle East war, with the possibility of wider conflict, pose additional concerns for the global economy and financial stability.
In a downside scenario, the bank warns that further escalation of geopolitical tensions could intensify uncertainty, adversely affect global markets, disrupt international trade, and lead to higher energy and commodity prices, causing inflationary pressures and slowing economic activity.
The bank urges financial institutions to remain vigilant in managing existing geopolitical, climate and other challenges, whilst strengthening their defences against emerging risks.
Amidst political reactions to borrowing costs, the supervisory authority advises banks to consider reputational risk and demonstrate social sensitivity in their pricing and business activities.
The report notes that despite high prices and interest rates, the private non-financial sector is expected to remain resilient, supported by recovering real household incomes and projected economic growth of around 3 per cent annually during 2024-2026.
The sector’s precautionary savings accumulated during the pandemic could serve as a first line of defence for loan repayments if needed.
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