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Interest rate cut but with asterisks for Cyprus

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Helps to increase consumption and new lending, but does not help in terms of increasing the rate of inflation in the country

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By Panagiotis Rougalas

The European Central Bank (ECB) cut its three main interest rates by 25 basis points on Thursday, June 6, 2024 after almost 2 years of increases, or unchanged actions. The interest rate on the main refinancing operations as well as the interest rates on the marginal financing facility and the deposit acceptance facility will be reduced to 4.25%, 4.50% and 3.75% respectively, from 12 June 2024.

This is good news for the economy in general, since it is expected that the cost of money for businesses and households will decrease – if only slightly – possibly bringing benefits indirectly due to the increase in consumption, public and private debt will decrease – if only slightly and finally, new borrowing will become slightly cheaper. All of the above will be further strengthened if the ECB continues to cut interest rates in subsequent monetary policy sessions and lower current levels.

As the ECB itself has pointed out, despite progress in recent quarters, domestic price pressures remain strong as the pace of wage growth is elevated, and inflation is likely to remain above target for much of 2025 Eurosystem experts now expect headline inflation to average 2.5% in 2024, 2.2% in 2025 and 1.9% in 2026. As for inflation excluding energy and food, they forecast it to average 2.8% in 2024, 2.2% in 2025 and 2.0% in 2026.

Not all is rosy

In May 2024, inflation in Cyprus showed a large increase compared to last May, with an increase rate of 2.7%. According to the Cyprus Statistical Service, the Consumer Price Index (CPI) in May 2024 increased by 0.75 points and reached 117.84 points, compared to 117.09 points in April 2024. On an annual basis, inflation in May rose at a rate of 2.7%, surpassing November 2023 levels, two months after the ECB last raised interest rates.

Asked to comment on the reduction of the ECB's interest rates by 25 basis points in “K”, the economist Dr. Alexandros Apostolidis, pointed out that, “the situation where Cyprus has the second highest inflation rate and interest rates are decreasing, puts the country in a not so good position”. Wanting to explain the above position, Mr. Apostolidis noted that, “the effort to limit inflation, which the Government probably did not give the importance it should, makes the equation difficult.” As he said, during the previous period when Cyprus had developed a very good rate of reduction of its inflation compared to other states in Europe, an interest rate reduction at that time would seem extraordinary and would give it a great competitive advantage.

“The Government's decisions to increase the ATA, or to provide support measures of a horizontal nature such as the fuel subsidy, has put us in an uncomfortable situation and I am talking about the economy of Cyprus in general. Don't get me wrong, clearly the Cypriot consumer will see some relief in their loan and that's good, but we shouldn't ignore the fact that Cyprus has the second highest rate of inflation and interest rate cuts won't help it”, commented Dr. Alexandros Apostolidis.

Finally, the economist Apostolidis indicated to “K” that, “a country like Cyprus that is based on services, should have an inflation rate below the European average . To put it “in layman's terms”, we want the accountant in Cyprus to be cheaper than the accountant in Luxembourg, so that by extension the country has strong growth. What I want to emphasize from my side is that fiscal discipline is needed, with the right moves”.

Source: www.kathimerini.com.cy

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