CYPRUS: Service centre - Cyprus.

CYPRUS: Service centre - Cyprus. - The island has reason to feel buoyant. It is well established in sectors as diverse as financial services, software production, market research and design, and EU membership is almost in the bag.

by Adrian Murdoch.
Last Updated: 31 Aug 2010

The island has reason to feel buoyant. It is well established in sectors as diverse as financial services, software production, market research and design, and EU membership is almost in the bag.

The island of Cyprus is one of the surprising economic successes of the eastern Mediterranean. What is surprising is quite how long it has been at the centre of international trade - ever since copper reserves were found there in the third millennium BC. Since then the island has played host to hordes of Greeks, Romans, Byzantines, Venetians, Templars, and finally the British, whose 80-year rule ended in 1960.

Throughout the period the island has been Europe's Middle Eastern outpost, and it has been biding its time. Now, on the brink of a new millennium, it is seeking to reap the fruits of its labour. The island, comparable in size to Lebanon or the state of Connecticut in the US, is on the brink of negotiations that will make it the European Union's 16th member. It is also rapidly developing as one of Europe's most important financial service centres.

Its successes are partly down to the stability of the economy. Gross domestic product has been growing at a steady 4% a year, its per capita income of $12,622 outstrips that of many EU members and with both inflation and unemployment at 3.4% it is the envy of most of its neighbours.

If a fiscal deficit of around 4% is added to this - only just outside the Maastricht criteria - it is little wonder that the government is feeling bullish.

Over the past few years the economic climate of Cyprus has changed. The previous focus on manufacturing industries has shifted to the service sector. The reason is simple. Units costs are high in western Europe compared to Southeast Asia. As a result, footwear and clothing manufacture has, according to Antonis Pierides, director general of the employers and industrialists federation (OEB), 'gone out of business'. It is as a service centre that Cyprus now intends to compete. Financial services, software production, market research, medical services (Cyprus has some five or six private hospitals), consulting, marketing and design are all areas of expertise. Cypriot firms have already established these as areas of excellence and firms have opened offices as far afield as Kazakhstan and Singapore.

Andreas Pittas, president of the OEB, claims: 'Cyprus possesses all the necessary prerequisites to achieve substantial export of services, to establish itself as a regional centre for numerous services and to develop the sector as a new, stable and wealth-generating resource of high value-added for the benefit of the people.'

It might appear a difficult change to make, but Cyprus is lucky in its people. The island has always placed an emphasis on education. Indeed it has the third highest number of graduates in the world. Furthermore, although the island has had its own university for the past five years, many Cypriot students travel abroad for tertiary education and return equipped with new skills and languages.

The infrastructure to achieve the shift to services is now almost in place. As the icing on the cake, Pittas calls for the need to 'harmonise tax policy to ensure financing that takes into consideration the special characteristics of transactions in services'. And certainly the government is happy to comply, with minister of finance Christodoulos Christodoulou saying: 'We are striving to find appropriate solutions.'

The emphasis on services has partly been triggered by the serious long-term commitment of the government to reduce the island of Aphrodite's dependency on tourism. Although the industry accounts for 20% of gross domestic product and employs one in three of the total population, the Gulf War and troubles in the Middle East have had a damaging effect on tourism. Nevertheless, Cyprus is understandably proud of the fact that the repeat tourist factor is 30%. Indeed two million people visited the island last year, the majority, of course, from European Union countries. Britain, for historical reasons, remains the most important source of visitors and alone accounted for 750,000 tourists last year.

However, a recent positive development has been an increase in numbers of visitors from Greece, Egypt and Scandinavian countries. Not only that, there has been an almost 30% rise in visitors from Russia. The challenge for the government, says Michael Erotokritos, permanent secretary at the ministry of commerce, industry and tourism, is to improve the tourist product and aim for high-value tourism.

It has been an uphill struggle for the island. Cyprus had always traditionally aimed at attracting high-value visitors, avoiding mass tourism as a matter of policy. This had to be reassessed after the Turkish invasion when the island lost two of the main tourist locations, Famagusta and Kyrenia, and 70% of its tourist infrastructure was taken out of its hands. As survival became a priority, mistakes were made as infrastructure was replaced as quickly as possible in cities like Limassol, Agia Napa and Larnaca. Recognising this, the authorities have called a halt to high-rise hotel complexes and planning procedures have been considerably tightened. The emphasis now is on upgrading tourist facilities in the broadest sense as well as increasing the spend per tourist. To this end, the island has also moved heavily into the conference market and is starting to invest in new marinas and golf courses.

It is impossible to spend more than a few moments in Nicosia without becoming acutely aware that it has the dubious honour of being the last divided city in the world. Following the Zurich agreement between Britain, Greece and Turkey in 1960, Cyprus' independence was finally ratified after several years of struggle. That independence lasted only a short 14 years. In July 1974, Turkey invaded Cyprus with 40,000 troops, and followed up with a further invasion the next month. As a result, 37% of the island was occupied - representing 70% of the country's economic potential - and all attempts at peace have been spiked by the government of Turkey and the Turkish-Cypriot leadership.

But it is what has been done despite the tragedy that is most impressive.

Credit for much of this is down to Lellos Dimitriades, the independent mayor of Nicosia, now in his third term of office. 'We are not in a tomb, pulling the marble over us,' he says before speaking of the co-operation that has developed between both sides of the city. 'We have been talking since 1977. The most important result is in the preservation of the old city and planning and development. By and large we have managed to go on talking.' So far $20 million has been spent, the two most high-profile projects being the Nicosia Sewerage Project and, most impressively of all, the restoration within the heart of the city.

This prime example of partnership between the two parts of the city, Chrysaliniotissa and Arab Ahmet, has taken place on either side of the Green Line buffer zone. Co-operation under the auspices of the United Nations Development programme has been working for the last 10 years to produce a rational development of the city towards the end of the century.

The focus of the so-called Nicosia masterplan is to stop the physical decay and socio-economic disintegration of the historic core by providing the impetus for new investments and attracting new residents to the city.

The Chrysaliniotissa and Arab Ahmet Rehabilitation project is among the most demanding. The main aim is to attract younger and economically active households - via attractively priced housing - to restore the sense of community that was destroyed during the war.

The project and its aim of self-sustained rehabilitation stands as a metaphor for the island. Despite the tragedy, there is a feeling that peace must soon be on the horizon. Ninos Hadjirousos, partner at Ernst & Young, speaks for the private sector by saying that 'the uncertainty is a deterrent, but peace efforts are intensifying'.

The island's facts and figures

Population 736,000

Capital Nicosia (also called Lefkosia), population 191,000

Currency Cyprus pound, made up of 100 cents. (Cpound 1 = £1.25)

Official languages Greek and Turkish. English is widely spoken

Time GMT+2

Area 9,251 square miles

Unemployment 3.4%

Per capita income $12,622

Inflation 3.4%

Main trading partner EU, 55.4% imports and 28% exports

Place of fiscal harmony

Just before the opening of CyServe '97, the third annual services exhibition in Nicosia in October last year, Antonis Pierides, director general of the employers and industrialists federation (OEB), made a statement that sent a clear signal to the world: 'We compete in services not industry.

We are a small economy distant from raw materials, in services we compete effectively.' It is a call to arms that has been heeded by the government. Christodoulos Christodoulou, minister of finance, was swift to add his support to a sector which already contributes just over 70% to the national gross domestic product. 'The government will continue to take all the necessary support measures aimed at upgrading the various sectors (within financial services) and sub-sectors of economic activity.' And, given the country's geographical location as a bridge between western Europe and the Middle East, he believes that services have significant room for expansion.

To this end the government is looking to intensify its efforts in non-traditional service sectors, 'precisely because of the significant advantages that Cyprus possesses in these,' he adds. Those now being targeted, he notes, include consultancy services for training and management, computer programming, medical and educational services among others.

Of course it is as an offshore centre that Cyprus is best known. Introduced in 1975, the year after the Turkish invasion, Cyprus' offshore status was developed to kick-start the economy by attracting foreign capital.

The principle is simple. An offshore company refers to any company owned by a non-resident for the purpose of conducting business outside Cyprus.

Such companies have considerable fiscal benefits. Taxation on net profits is 4.25%, there is no withholding tax on dividends, no wealth or gifts tax, there is import duty exemption on car, office and household equipment for companies and expatriate employees but, most important of all, there is full tax exemption on profits of company branches if management and control are outside Cyprus.

Initial interest came from the Lebanese business community which was fleeing war at the time. But since then the growth in the registration of offshore companies has been immense. So far most have been registered in the southern port of Limassol, to take advantage of the ship management role that the island plays. Cyprus now ranks fifth in the world of leading maritime nations, with around 1,652 ships totalling over 23.8 million tonnes. As an industry, it employs around 2,200 people servicing the 1,000 or so companies which are physically located on the island, not to mention the further 25,000 organisations simply registered there, or the 28 offshore banking units. After a slight hiatus last year, a further 800 new companies are predicted to register this year. Despite the popularity of the island - companies like Coca-Cola, Bull, NCR, Hong Kong Shanghai Bank all have a presence there - it has suffered from a bad international press.

George Georghiou, representative of the Central Bank, is quick to emphasise that Cyprus is neither a tax haven nor a centre for money laundering.

Accounts are carefully monitored and audited at frequent intervals and, at the slightest whiff of irregularity, offshore status and visas are revoked. Not only that, all transfer transactions over the sum of $10,000 have to be submitted to the Central Bank. The Central Bank dismisses one recent laundering report as 'absurd' pointing out that the figures cited were equivalent to four times the national GDP.

The private sector seems to be convinced by the government's stance and the perky atmosphere is almost tangible. Ninos Hadjirousos, partner at Ernst & Young, is quite happy to agree that 'the government is taking the necessary actions to make Cyprus a financial centre'. He believes a few legislation tweaks are needed, notably in exchange controls, but the Cypriot government is heading in the right direction and he says that these issues will be 'fully harmonised within the year'.

Lefkios Joannides, managing partner of chartered accountants L Joannides & Co agrees wholeheartedly and is clearly looking forward to expansion. Although set up only in 1980, his company already has offices in Athens and Bucharest, due to the rise in demand for consulting work and international tax planing. 'The economy will certainly expand,' he says happily.

EU membership beckons islanders with a Eurocentric outlook

'It is reasonable to expect us to become the 16th member of the European Union,' says Antonis Pierides, director general of the employers and industrialists federation. A formal application having been made to Brussels in 1990, negotiations are due to start on 2 April with a formal accession planned within the next five years. It is no surprise that Cyprus has been looking to the EU as it has always been Eurocentric in its outlook.

It signed an association agreement with the then EEC in June 1973 which provides for not only the abolition of all barriers to trade but also customs union by next year. On top of this, Cyprus also signed the Barcelona Declaration which calls for a free trade zone in the EU by 2010 and will cover the EU members, 12 Mediterranean states and some of the countries of south east Europe.

There is little sign of any of the Euroscepticism that has bedevilled some of the other European countries. First, it is seen as biting the hand that feeds it - EU member countries account for around half of the country's trade and almost three-quarters of its tourists, the UK alone providing 39% of tourists followed by Germany at 12%. And second, the Cypriots are very well aware of the benefits that membership will confer.

'We are a small economy and we will have to operate in a larger one. That gives us advantages,' says Pierides. He hopes that Cyprus will be able to act as an even closer bridge between the union and the Middle East, and speaks of the benefits that will accrue to the country's agricultural industry - an important 5% of the economy - by not having to pay tariffs.

A further hope by the international community is that accession negotiations will go hand-in-hand with internal peace talks, something that is taken for granted on the island. Cyprus knows it will not gain admission if it is perceived as having blocked a settlement. And Northern Cyprus has been warned that membership will go ahead without it if it appears unreasonable.

There has also been the worry that membership could affect Cyprus' offshore status, something which George Georghiou, representative of the Central Bank, is swift to scotch: 'The EU will let us continue for a generous period of time,' he says, citing Luxembourg as an example. Pierides ends on a bullish note. There is a very real possibility that because of Cyprus' per capita income of $12,622 per annum, 'we might be a net contributor to the Union,' he says with a smile.

Incentives to bring in the investors

Exchange controls permission for the remittance of profits, dividends and interest is freely given

Customs union with the EU manufactured products enter the EU without import duty

Industrial estates provide building sites with all facilities including water, electricity, sewage systems and telecoms services

Industrial free zone there is a free zone near Larnaca. Plant machinery, equipment and raw materials incur no customs duty. Products then manufactured are destined for export markets

The benefits of operating offshore

Offshore entities managed and controlled from Cyprus income tax rate of 4.25% Other offshore entities and partnerships income tax rate 0% Dividends Not subject either to withholding or other taxes

Taxes exempt from social insurance contributions for foreign employees; exempt from tax on capital gains arising on disposal of assets; shares are exempt from estate duty

Double tax treaties Cyprus has signed double taxation treaties with 26 countries in both eastern and western Europe as well as north America.

Find this article useful?

Get more great articles like this in your inbox every lunchtime