Greek debt crisis and power plant explosion leave Cyprus on 'verge of economic collapse'

Island may need bailout following exposure to Greek banks and an explosion that hit the island's finance and tourism sector

Helena Smith
guardian.co.uk,
Friday 29 July 2011 19.53 BST


The Vasiliko power station, which was destroyed on 11 July in a blast of confiscated Iranian munitions. Photograph: Andreas Manolis/Reuters

Europe's debt drama has rippled across the Mediterranean to Cyprus. The country's beleaguered leader was scrambling today to form a government amid speculation that the island's ailing economy may soon need to be rescued by the EU.

Barely a week after EU leaders attempted to contain the crisis by agreeing to a new aid package for Greece, Cyprus has begun to show all the signs of fiscal contagion, with rising borrowing costs and an economy that has seen its credit rating downgraded.

"We are on the verge of economic collapse," said Ioannis Kasoulides, the island's former foreign minister and current MEP. "Unless serious structural reforms are implemented, we will face bankruptcy and need [a bailout] too."

Hopes of the crisis being nipped in the bud were crushed yesterday as President Demetris Christofias struggled to appoint a new administration.

Christofias' refusal to confront the island's tough trade unionists – widely blamed for its profligate public sector – appeared to be a major obstacle.

Until recently Cyprus was considered an "economic miracle". But the global financial crisis and a series of misfortunes have added to its woes. An explosion at a naval base on the island earlier this month left 13 dead and knocked out its main power plant, triggering daily blackouts that have severely affected the financial and tourism sectors on which it depends. Damage from the blast is estimated at €1bn-€3bn (£878m-£2.6bn) and as much as 20% of gross domestic product.

With 19 months left in office, Christofias has come under heavy attack for the accident. The disaster occurred after a cache of explosives confiscated from a Syrian-bound Iranian ship were left out in high temperatures close to the power plant.

Downgrading the economy by two notches last week, Moody's said the blast caused "material damage" to the country's mid-term prospects. The agency said its growth would stagnate and cut its growth forecast to zero from 1.8%.

But it is the island's exposure to Greek banks that have generated the economic morass in which it now finds itself.

Citing the island's "increasingly fractious domestic political climate", Moody's also raised concerns over the disproportionately big role banks play in the island's economy. As an offshore haven, Cyprus has become the preferred destination for Russian oligarchs, in particular, to transfer huge amounts of wealth, with bank assets accounting for about 600% of GDP.

Cypriot banks are among the largest holders of Greek debt in Europe and Moody's has predicted that the country's capital, Nicosia, would be particularly exposed to a possible sovereign default in Athens.

Without a political resolution, Cyprus would not be able to push ahead with the urgent reforms it now needs, the agency added. "This adverse development increases risk to the government's plans, many of which will require not just cross-party support but also acceptance by trade unions," Moody's said.

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