ECONOMY

ECONOMY*
(* Section refers to the government-controlled area unless otherwise specified.)

Cyprus has an open, free-market, services-based economy with some light manufacturing. Cyprus' accession as a full member to the European Union as of May 1, 2004, has been an important milestone in its recent economic development. The Cypriots are among the most prosperous people in the Mediterranean region. Internationally, Cyprus promotes its geographical location as a "bridge" between three continents, along with its educated English-speaking population, moderate local costs, good airline connections, and telecommunications.

In the past 20 years, the economy has shifted from agriculture to light manufacturing and services. Currently, agriculture makes up only 3.1% of the GDP and employs 8.5% of the labor force. Industry and construction contribute 18.6% and employ 20.5% of the labor force. The services sector, including tourism, contributes 78.3% to the GDP and employs 71.0% of the labor force. In recent years, the services sector, and financial services in particular, have provided the main impetus for growth, while the traditional growth sector, tourism, has leveled off. Manufactured goods account for 58.5% of domestic exports, while potatoes and citrus constitute the principal export crops. The island has few proven natural resources. Trade is vital to the Cypriot economy and most goods are imported. The trade deficit increased in 2007, reaching $5.8 billion. Cyprus must import fuels, food, most raw materials, heavy machinery, and transportation equipment. More than 67% of its imports come from the European Union, particularly Greece, Italy and the United Kingdom, while 1.2% come from the United States.

GNP growth rates have gradually begun to decline as the Cypriot economy has matured over the years. The average rate of growth went from 6.1% in the 1980s, to 4.4% in the 1990s to 3.6% from 2000 to 2007. In the last couple of years (2006 and 2007) growth has remained fairly strong at around 3.8% and 4.2%, respectively and is forecast to remain so for 2008, albeit the financial turmoil of the last months has caused estimates of 2008 growth to be reduced to 3% . Inflation had remained in check up until 2007 (less than 2.5%) but it surged to around 4.8% in 2008. Cyprus has the third-lowest unemployment rate in the EU27 at around 3.9%. Public finances have also improved considerably in recent years. The fiscal deficit, which had peaked at 6.3% of GDP in 2003, was gradually eliminated by 2006. A fiscal surplus of 3.3% of GDP took its place in 2007, likely to be followed by a 1.0% surplus in 2008. Concurrently, the public debt declined from 65.2% in 2006, to around 60% of GDP in 2007, and is forecast to drop further to 49% in 2008.

These developments helped pave the way for the Euro, which replaced the Cyprus Pound as Cyprus' national currency as of January 1, 2008. Joining the Eurozone was a major accomplishment for the Cypriot economy, resulting in such benefits as a higher degree of price stability, lower interest rates, reduction of currency conversion costs and exchange rate risk, and increased competition through greater price transparency. The final conversion exchange rate between the Cypriot pound and the Euro was one Euro per 0.585274 Cyprus pounds. The following website offers additional information on the mechanics of Cyprus's adoption of the Euro: http://www.euro.cy/

Investment Climate
In the run-up to EU accession (May 1, 2004), Cyprus dismantled most investment restrictions, attracting increased flows of Foreign Direct Investment (FDI), particularly from the EU. Cyprus has good business and financial services, modern telecommunications, an educated labor force, good airline connections, a sound legal system, and a low crime rate. Cyprus' geographic location, tax incentives and modern infrastructure also make it a natural hub for companies looking to do business with the Middle East, Eastern Europe, the former Soviet Union, the European Union, and North Africa. As a result, Cyprus has developed into an important regional and international business center. According to the latest United Nations Conference on Trade and Development (UNCTAD) "World Investment Report 2008," Cyprus ranks among the world's leading countries per capita in terms of attracting FDI. Non-EU investors (both natural and legal persons) may now invest freely in Cyprus in most sectors, either directly or indirectly (including all types of portfolio investment in the Cyprus Stock Exchange). The only exceptions concern primarily the acquisition of property and, to a lesser extent, restrictions on investment in the sectors of tertiary education, banking, and mass media.

In 2007, the inflow of FDI reached $2.17 billion, compared with $1.82 billion in 2006. The geographic origin of new investment in 2007 was primarily the EU, with 61.0% of the total, followed by non-EU countries in Europe with 34.4%. In terms of sectoral allocation, incoming FDI in 2007 went to the following sectors: manufacturing 1%; construction 3.0%; trade and repairs 24.9%; transport and communication 3.7%; financial intermediation 14.8%; real estate and business activities 47.6%; and other services 4.6%.

The flow of U.S. investment in Cyprus reached $37.4 million in 2007 or 1.7% of Cyprus' total inward FDI. The stock of U.S. investment in the island was $338.4 million at the end of 2007. Projects involving U.S. investment in recent years have included a well-known U.S. coffee retailing franchise, a university, an information technology firm, an equestrian center, a hair products manufacturing unit, a firm trading in health and natural foodstuffs, and a financial services company. U.S. investors may benefit from Cyprus’s abolition of EU-origin investment restrictions, provided they operate through EU subsidiaries.

Additional information on foreign direct investment can be obtained from the Cyprus Investment Promotion Agency website: http://www.cipa.org.cy.

European Union (EU)
Along with the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Malta, Poland, Slovakia, and Slovenia, the Republic of Cyprus entered the EU on May 1, 2004. The EU acquis communautaire is suspended in the area administered by Turkish Cypriots pending a Cyprus settlement.

Export Opportunities
Best prospects for U.S. firms generally lie in services, high technology sectors, such as computer equipment and data processing services, financial services, environmental protection technology, medical and telecommunications equipment, desalination and water purification equipment and services, and tourism development projects such as casinos, marinas, and golf courses. Moreover, alternative energy sources and the energy sector in general, are attracting an increasing amount of attention, while the possible existence of natural gas and petroleum reserves off the southern and eastern coast of Cyprus opens up new prospects. U.S. food franchises and apparel licensors are also finding fertile ground for expansion in Cyprus.

Trade Between Cyprus and the United States
The U.S. Embassy in Nicosia sponsors a popular pavilion for American products at the annual Cyprus International State Fair and organizes other events to promote U.S. products throughout the year. The U.S. runs a significant trade surplus with Cyprus, on the order of $100.5 million in 2007 (exports of $109.4 million versus imports of $8.9 million--according to Republic of Cyprus statistics).

Principal U.S. goods exports to Cyprus include office machines and data processing equipment; electrical appliances; optical, measuring, and medical equipment; passenger cars; and edible fruit and nuts. Principal U.S. imports from Cyprus consist of dairy products, fresh fish, and mineral substances.

Bilateral business ties also encompass a healthy exchange in services. In 2007, the inflow of services (from the United States to Cyprus) was $749.1 million, against an outflow (from Cyprus to the United States) of $275.7 million, according to Republic of Cyprus statistics.

Turkish Cypriot Economy
The economy of the Turkish Cypriot-administered area is dominated by the services sector including the public sector, trade, tourism and education, with smaller agriculture and light manufacturing sectors. The economy operates on a free-market basis, although it continues to be handicapped by the political isolation of Turkish Cypriots, the lack of private and public investment, high freight costs, and shortages of skilled labor. Despite these constraints, the Turkish Cypriot economy turned in an impressive performance from 2003 to 2006, with estimated growth rates of 13.2% in 2006, 13.5% in 2005, 15.4% in 2004, and 11.4% in 2003. This pattern was overturned in 2007, when the economy reportedly shrank by 2.5%. Negative growth is expected again in 2008 as the construction sector continued to contract and tourism from countries other than Turkey declined The economy in recent years has been fuelled by the relative stability of the Turkish Lira, the employment of around 6,000 Turkish Cypriots in the Greek Cypriot economy where wages are significantly higher, and by a boom in the education and construction sectors. In 2007, the services sector accounted for 78.5% of GDP, industry and construction accounted for 14.6% of GDP, and agriculture 7.0%, according to Turkish Cypriot statistics. The partial lifting of travel restrictions between the two parts of the island in April 2003 has allowed movement of persons--over 12 million crossings to date--between the two parts of the island with no significant interethnic incidents.

Turkey remains, by far, the main trading partner of the area administered by Turkish Cypriots, supplying 65% of imports and absorbing around 50% of exports. In a landmark case, the European Court of Justice (ECJ) ruled on July 5, 1994 against the British practice of importing produce from the area based on certificates of origin and phytosanitary certificates granted by "TRNC" authorities. The ECJ decision resulted in a considerable decrease of Turkish Cypriot exports to the EU--from $36.4 million (or 66.7% of total Turkish Cypriot exports) in 1993 to $12.9 million in 2006 (or 19% of total exports). In August 2004, new EU rules allowed goods produced or substantially transformed in the area administered by Turkish Cypriots to be sold duty-free to consumers in the government-controlled area and through that area to the rest of the EU. To qualify, goods must also meet EU sanitary/phytosanitary requirements. Animal products are excluded from this arrangement. In May 2005, Turkish Cypriot authorities adopted a new regulation "mirroring" the EU rules and allowing certain goods produced in the government-controlled areas to be sold in the area administered by Turkish Cypriots. (However, suppliers cannot legally transport imported products over the green line in either direction.) Despite these efforts, direct trade between the two communities remains limited.

The EU continues to be the second-largest trading partner of the area administered by Turkish Cypriots, with a 17.9% share of total imports and 18.9% share of total exports. Total imports increased to $1.3 billion in 2006, while total exports remained at $68 million. Imports from the U.S. reached $9.8 million in 2006, while exports to the U.S. were less than $100,000.

Assistance from Turkey is crucial to the Turkish Cypriot economy. Under the latest economic protocol (signed in 2006), Turkey undertakes to provide Turkish Cypriots financial assistance totaling 1.875 billion New Turkish Lira (YTL--roughly $1.34 billion) over a three-year period (600 million YTL in 2007, 625 million YTL in 2008 and 650 million YTL in 2009). Turkey also provides millions of dollars annually in the form of low-interest loans to mostly Turkish entrepreneurs in support of export-oriented industrial production and tourism. Total stock Turkish assistance to Turkish Cypriots since 1974 is estimated to have exceeded $4 billion.

* Section refers to the government-controlled area unless otherwise specified.

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