INFLATION CONCERNS OF CYPRUS CENTRAL BANK GOVERNOR

C O N F I D E N T I A L NICOSIA 000510

SIPDIS

TREASURY FOR VIMAL ATUKORALA
USEU FOR TREASURY ATTACHE

E.O. 12958: DECL: 07/08/2018
TAGS: ECON EFIN CY
SUBJECT: INFLATION CONCERNS OF CYPRUS CENTRAL BANK GOVERNOR

Classified By: AMB R SCHLICHER FOR REASONS 1.4 B AND D

1.(C) During a conversation with econoff on July 7, Central
Bank of Cyprus Governor, Athanasios Orphanides, lamented
Cyprus' inflation (CPI) rate had grown to an annualized 5.2
percent in June, more than 1 percent above that of the
Eurozone as a whole, and stated that he expects inflation to
reach 6 percent by year-end. He accused the Finance Minister
of "acting like a politician" due to his refusal to slow
government spending in response to the problem. The Governor
cited the government's increasing payments to pensioners,
regardless of their income, and an increase in civil servant
wages (over and above the bi-annual cost of living
adjustment) as two specific examples of GOC programs that are
spurring domestic inflation.

2.(C) Orphanides noted that, even after last week's 25 basis
point increase in the marginal lending rate by the ECB, real
interest rates in Cyprus are likely negative, and this has
helped spur a 35 percent annualized increase in borrowing
from local banks. With his ability to control monetary policy
and bank reserve requirements limited by the ECB, Orphanides
expressed clear frustration with the government's "populist"
approach to the problem of inflation, which they have blamed
on exogenous issues such as the global rise in oil and
commodity food prices. The Governor believes that with GDP
continuing to grow about 3.5 percent and so much of the
workforce protected from economic cycles by working for the
government, semi-government organizations, or the big banks
(which generally follow government wage polices),Cypriot
consumers remain full of confidence and will, therefore,
continue to consume at record levels. Thus, he concludes, it
is up to the government to adjust its fiscal policies.

3.(C) Comment: Orphanides is a lone voice of economic
concern in Cyprus. As he told us, "all the government from
the President down is only interested in solving the Cyprus
problem. No one is watching the economy." While this may be
over-stating the problem, there is no denying that Cyprus'
inflation is 25 percent above that in the rest of the
Eurozone and there has not been a whisper of any plans by the
government to rein it in. In fact, when Orphanides suggested
that wage increases be tied to productivity growth rather
than automatically to increases in CPI, he was severely
criticized by the leader of the President's political party
in the Parliament; and no government official came to his
defense. We expect that inflation would have to get
significantly worse before this government, dedicated to "a
more just society," would try and tackle the problem.
SCHLICHER