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Possible tax rise all because government fears unions.

LAST FRIDAY'S announcement that Moody's downgraded the Cyprus government's bond ratings two notches came as a reminder that the economy continues to move down the slippery path towards insolvency.

The most alarming thing is that we needed yet another wake-up call about the grave situation of the economy, which had been swept under the carpet for the last few weeks. Politicians and media have been too busy talking about the gas-drilling, the Kassinis-Antoniadou feud at the commerce ministry and the municipal elections alliances to bother with the economy.

Not that the public debate about the economy has been very helpful as it has been confined to verbal exchanges that achieve nothing other than to deal more blows to flagging business confidence by exposing the government's ineptitude. At least talking about the host of economic problems we face puts some pressure on the government which has been acting as if it has solved all of them.

The e1/42.5 billion loan secured from the Russian government at a low interest rate, combined with the optimism generated by the drilling for gas, has allowed the government to revert to its do-nothing policy. It has included some half-baked measures, approved by the unions in its 2012 budget, and having covered next year's borrowing requirements through the Russia loan, it has decided nothing else needed to be done. Any remaining problems were the result of the banks' exposure to the Greek government debt, it suggests.

Yet the fact is that government bonds are now just one notch away from being classed as junk, a possibility given that Cyprus is on review for another downgrade. And once our bonds are classed as junk, the government would have no borrowing options. It would not be able to bail out the banks, which are obliged to undertake re-capitalisation next year, as it would not be able to go to the markets or seek help from the EU, thanks to the junk status. Entry into the support mechanism seems inevitable.

Moody's explanation for the downgrade was very clear. "The structural rigidities in the government budget are not being decisively addressed," it said, in direct reference to the inadequate measures taken by the government, and added: "These vulnerabilities have also substantially reduced the government's ability to absorb an increase in debt stemming from the crystallisation of contingent banking liabilities."

Things were so desperate the Central Bank governor on Saturday spoke of the need to raise taxes, a catastrophic measure during a recession. But there is no other option given the government's refusal to address the structural rigidities in the government budget, for fear of upsetting the unions. The suspicion is that the government would rather enter the support mechanism and have unpopular measures imposed on it, rather than be burdened with the political cost of such decisions.

It is a colossally irresponsible approach because the harm this does to Cyprus as a financial services centre may be irreparable.

Copyright Cyprus Mail 2011

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Publication:Cyprus Mail (Cyprus)
Geographic Code:4EXCY
Date:Nov 8, 2011
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