Cyprus - Foreign Trade and the Balance of Payments

Foreign trade and the balance of payments

Cyprus's trade balance has been consistently unfavorable since before independence. Given its large and expanding trade deficit, the Republic of Cyprus was fortunate to have a large and growing surplus in its invisibles account, enough even to offset the trade deficit in 1987 and 1988. The major factors contributing to this surplus were tourist receipts, receipts from transfers, and income from other goods and services (such as foreign military expenditures, in Cyprus, embassy expenditures, and foreign exchange from offshore enterprises). Tourist receipts expanded from C�232 million in 1985 to C�386 million in 1988. Income from other goods and services increased from C�173.3 million in 1985 to C�208.2 million in 1988.

Cyprus experienced its first overall balance-of-payments deficit after independence in 1973. During the 1980s, the influx of capital in the form of loans and investments was sufficient to give the country a positive balance of payments in all years except 1985 and 1988, despite the usually negative current account balance.

The foreign exchange reserves of the Republic of Cyprus at the end of 1988 reached C�571.8 million, an improvement over the reserves of C�501.2 million at the end of 1987. These reserves were estimated to be sufficient to cover about nine months of imports.

Even though the trade balance was chronically unfavorable, exports had greatly increased since the Turkish occupation in 1974. Exports of goods and services rose by an average of 20.7 percent annually (in current prices) during the 1975-86 period; they increased 16.5 percent in 1987 and 10.5 percent in 1988.

The main domestic exports had been agricultural exports, especially citrus fruits and potatoes, and manufactured products, most importantly clothing, footwear, chemicals, and machinery. Agricultural exports amounted to 24.7 percent of total domestic exports in 1985 but declined to 20.5 percent in 1988; manufactured exports were 71.7 percent of the total in 1985 and rose to 77.4 percent in 1988.

The European Economic Community (EEC) continued to be the main market for the republic's exports, absorbing 42.7 percent of total domestic exports in 1986, some 45 percent in 1987, and 47 percent in 1988. Among the EEC countries, the top customer continued to be Britain, with a share of 50.4 percent in 1988, followed by Greece with a share of 19.5 percent. The other major block of countries to which the republic's exports continued to do well were the Arab countries. In 1986 this group took 42.2 percent of total domestic exports, in 1987 38.6 percent, and in 1988 36.7 percent.

The Republic of Cyprus was dependent on imports for many raw materials, consumer goods, transportation equipment, capital goods, and fuels. Total imports increased from C�177.8 million in 1976 to C�1.130 billion in 1989. The seemingly permanent trade deficits amounted to C�365.8 million in 1987, C�476.6 million in 1988, and C�668.6 million in 1989. In 1989 consumer goods were 18.8 percent of total imports; intermediate goods (raw materials), 41.6 percent; capital goods, 9.5 percent; transport equipment, 20.4 percent, and fuels 9.6 percent.

Most of the republic's imports came from the EEC: 60.7 percent in 1986 and 54.5 percent in 1988. Britain was the largest source of imports among the EEC countries, accounting for 22.1 percent of imports from the group in 1986 and 25.5 percent in 1988. Italy, the Federal Republic of Germany (West Germany), and Greece had the next three largest shares. Other major trading areas that provided imports to the republic were Eastern Europe (5.2 percent of total imports in 1986 and 7.1 percent in 1988) and the Arab countries (7.2 percent in 1986 and 4.8 percent in 1988). The rest of the world provided 26.8 percent of imports in 1986 and 33.5 percent in 1988; Japan accounted for 34.7 percent of this group's exports in 1988, and the United States 13.6 percent.

The balance of payments record of the Republic of Cyprus indicated the economy's vulnerability in the early 1990s. Imports continued to outpace exports, resulting in ever-expanding trade deficits. This situation would have been worse if it were not for the high protection afforded the domestic market. Although the Customs Union Agreement with the EEC, which became effective in January 1988, abolished all import duties on Cypriot industrial exports to the EEC countries, the real test for Cypriot manufacturing was expected in the second half of the 1990s, when all tariffs on EEC industrial and agricultural exports to Cyprus were to be phased out. EEC duties on Cyprus's agricultural exports to the EEC will also be phased out by then. Although some exceptions were allowed, the agreement would require free trade with the main Cypriot export market.

The Customs Union Agreement was the outcome of long negotiations. After Britain's entry into the EEC, Cyprus signed an association agreement, to become effective in June 1973 and to cover a ten-year period. According to the terms of the agreement, Cyprus received preferential access to the British market in return for a 35 percent reduction of tariffs on EEC goods, phased in over five years. A follow-up phase of the agreement, covering 1978 to 1983, would have led to a full customs union. The Turkish occupation interrupted the natural progress of this agreement. Cyprus was still allowed to export most of its industrial goods to the EEC without tariffs, but rules of origin restrictions applied, as did some restrictions on agricultural exports.

The Customs Union Agreement posed a major challenge to the highly protected manufacturing sector of Cyprus, revealing its competitive weaknesses. Only a restructuring of the sector by increasing the size of its units, reducing its labor-unit costs, improving its productivity, and strengthening the marketing of products to new markets would allow it to prosper. At the beginning of the 1990s, the sector's restructuring was under way, and the government had established the Council for the Promotion of Exports to make Cypriot products better known abroad.

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