Fiscal stability must be protected at all costs, as it remains the primary tool for managing crises. At the same time, resolving the issue of non-performing loans continues to be critical for strengthening the resilience of the economy.
The war in the Middle East has now entered its fourth week, with no clear end in sight and uncertainty intensifying following public statements by US President Donald Trump. Despite attempts by Trump to signal that negotiations with Iran are underway, the prevailing assessment is that both the end of the war and the emergence of a new, stable regional order remain distant. Stability in the Middle East is closely linked to global economic stability.
The economic impact of the war is already visible at fuel stations, with a chain reaction of price increases expected across all refinery-related products, from gas cylinders to fertilisers and airline tickets. In this environment, the government has announced a package of measures aimed at mitigating the impact of the conflict. A new package or an extension of existing measures cannot be ruled out, given the continued uncertainty. Following last Thursday’s announcements, the total cost of measures is estimated at around €250 million, including potential losses from the Recovery Fund if the government maintains its decision not to implement green taxation on fuels.
Central bank warnings
In its macroeconomic forecasts for the Cypriot economy, published on March 24, the Central Bank warned that “due to the ongoing war in the Middle East, the significant increase in oil prices, as well as heightened geopolitical uncertainty in the region, are expected to have a direct negative impact on the Cypriot economy, primarily in the short term.” These effects are expected to be particularly pronounced in tourism, shipping, construction and the real estate sector, all of which depend heavily on inflows of foreign direct investment.
The Central Bank also estimates that the war will have an indirect negative impact on services exports, due to an anticipated decline in external demand linked to geopolitical and geo-economic uncertainty, as well as higher energy prices. These developments are expected to weigh on all components of GDP expenditure, namely private consumption, investment and net exports.
The medium-term impact on the Cypriot economy will depend on the duration and intensity of the war. The baseline scenario assumes a conflict lasting around two months at high intensity, followed by gradual de-escalation.
The Central Bank forecasts a slowdown in GDP growth to 2.7% in 2026, compared to 3.8% in 2025.
Lines of defence
In terms of policy response, there is no room for complacency in fiscal policy or in the management of non-performing loans, both within and outside the banking system. This conclusion emerges from assessments by DBRS, Capital Intelligence and S&P, published after the outbreak of the war, which effectively serve as an informal roadmap for how Cyprus can remain resilient in this crisis.
The agencies stress that maintaining fiscal stability and further reducing and effectively managing non-performing loans are essential for the country’s ability to respond to crises, support the economy and safeguard financial stability. In practical terms, this means continuing to generate high primary surpluses and actively managing non-performing loans. Both require policy decisions. On the fiscal side, the Ministry of Finance is called upon to review spending, while on the NPL front, the existing legislative framework must remain intact.
Cyprus’ fiscal position remains one of its strongest advantages. Rating agencies highlight that consecutive surpluses in recent years, combined with a steady reduction in public debt, have created a significant reserve of credibility and policy flexibility.
Public finances recorded an average annual surplus of approximately 2.8% of GDP over the period 2022–2025, a trend expected to continue in the coming years. At the same time, public debt is on a downward trajectory, with projections indicating a decline below 55% of GDP and even lower levels in the medium term.
According to the agencies, this allows Cyprus to maintain significant fiscal space, meaning the country can intervene with support measures in times of crisis, whether related to energy, tourism or broader economic activity, without jeopardising fiscal sustainability.
However, fiscal discipline must not be relaxed. Increased spending, whether through public sector wage rises or social benefits, if not matched by corresponding revenue increases, could erode surpluses.
Capital Intelligence warns that loosening discipline through an expansion of current expenditure beyond revenue growth could reverse the positive debt trajectory and increase the risk of a downgrade. DBRS focuses more on medium-term pressures from climate transition costs, as well as risks linked to potential changes in corporate taxation, given Cyprus’ reliance on corporate tax revenues.
The agencies also warn that geopolitical developments could negatively affect public revenues, primarily through a slowdown in economic activity or reduced tourism. In such a scenario, maintaining strong fiscal buffers becomes even more critical.
High cash reserves also act as a safety cushion, sufficient to cover the state’s financing needs for at least one year, strengthening investor confidence and reducing funding risks.
A persistent burden
If fiscal stability constitutes the first line of defence, the management of the existing stock of non-performing loans represents the second. All three agencies highlight that non-performing loans remain one of the key structural weaknesses of the Cypriot economy, despite significant progress in recent years.
They acknowledge that the banking sector has turned a page since the 2013 crisis, with strong capital buffers, adequate liquidity and a sharp reduction in non-performing loans within bank balance sheets.
However, behind these improvements lies a more complex reality. A large stock of non-performing loans has been transferred outside the banking system to credit-acquiring companies, where it remains elevated and continues to weigh on assessments. Capital Intelligence estimates that these loans amount to approximately €19.7 billion, more than half of GDP, noting that over 40% of private debt remains non-performing, despite a gradual decline.
The transfer of NPLs outside banks improves banking indicators but does not eliminate the economic burden on households and businesses. Rating agencies warn that these loans continue to pose risks through potential liabilities and possible effects on property prices and investment. DBRS explicitly identifies the risk of contingent liabilities as a key fiscal concern, particularly if support measures are required or social pressures intensify.
At the same time, the large volume of problematic loans means that households and businesses remain tied to past debt, limiting their ability to invest or consume and constraining growth potential in the event of a new crisis. Capital Intelligence links any future upgrade of Cyprus to “significant deleveraging of the private sector” and a reduction of these assets outside the banking system.