Cyprus - Economy of Cyprus Economic affairs in Cyprus are dominated by the division of the country into the southern area controlled by the Cyprus Government and the northern Turkish Cypriot-administered area. The Greek Cypriot economy is prosperous but highly susceptible to external shocks. Erratic growth rates in the 1990s reflect the economy's vulnerability to swings in tourist arrivals, caused by political instability on the island and fluctuations in economic conditions in Western Europe. Economic policy in the south is focused on meeting the criteria for admission to the European Union. As in the Turkish sector, water shortage is a growing problem, and several desalination plants are planned. The Turkish Cypriot economy has about one-fifth the population and one-third the per capita GDP of the south. Because it is recognized only by Turkey, it has had much difficulty arranging foreign financing, and foreign firms have hesitated to invest there. The economy remains heavily dependent on agriculture and government service, which together employ about half of the work force. Moreover, the small, vulnerable economy has suffered because the Turkish lira is legal tender. To compensate for the economy's weakness, Turkey provides direct and indirect aid to tourism, education, industry, etc. Economy-in greater depth Cyprus has an open, free-market, service-based economy with some light manufacturing. The Cypriots are among the most prosperous people in the Mediterranean region. Internationally, Cyprus promotes its geographical location as a "bridge" between West and East, 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. The service sector, including tourism, contributes 70% to the GDP and employs 62% of the labor force. Industry and construction contribute 24% and employ 25% of labor. Manufactured goods account for approximately 69% of domestic exports. Agriculture is responsible for 6% of GDP and 12% of the labor force. Potatoes and citrus are the principal export crops. After robust growth rates in the 1980s (average annual growth was 6.1%), economic performance in the 1990s has been mixed: Real GDP growth was 9.7% in 1992, 1.7% in 1993, 6.0% in 1994, 6.0% in 1995, 1.9% in 1996 and 2.3% in 1997. This pattern underlines the economy's vulnerability to swings in tourist arrivals (i.e., to economic and political conditions in Cyprus, Western Europe, and the Middle East) and the need to restructure the economy. Declining competitiveness in tourism and especially in manufacturing will act as a drag on growth until structural changes are effected. Overvaluation of the Cypriot pound has kept inflation in check in recent years (3.5% in 1997) and is forecast to continue to do so in the foreseeable future. Economic prospects are good over the long term, and real growth in 1998 is expected to reach 3.0%. Trade is vital to the Cypriot economy--the island is not self-sufficient in food and has few natural resources--and the trade deficit continues to grow. Exports rose by 1.3% in 1997, while imports rose by 2.2%, resulting in a trade deficit of $2.1 billion (2.7% higher than the previous year). Cyprus must import fuels, most raw materials, heavy machinery, and transportation equipment. More than 50% of its trade is with the European Union (especially the U.K.); the Middle East receives 20% of exports. Cyprus signed an Association Agreement with the European Union (EU) in 1972, which resulted in the establishment of a Customs Union between the two sides. Cyprus applied for full EU membership in 1990 and has since linked the Cyprus pound to the European Monetary Unit (ECU). EU accession negotiations started on March 31, 1998. In 1991, Cyprus introduced a Value Added Tax (VAT), which is currently 15% in line with the EU minimum. Cyprus ratified the new world trade agreement (GATT) in 1995 and began implementing it fully on January 1, 1996. Cyprus has the fourth-largest ship registry in the world, with 2,758 ships and 25.5 million gross registered tons (GRTs). It is an open registry and includes ships from more than 43 countries, including Greece, Germany, and Russia. Export opportunities Cyprus has been liberalizing its trade regime by eliminating import quotas and licenses and lowering tariffs on most products as a result of its obligations under the new world trade agreement and its Customs Union agreement with the European Union. As a result, U.S. products are becoming more competitive in Cyprus and prospects for further expansion of bilateral trade ties are excellent. Government computerization and telecommunications development, two of the priorities of the government's 5-year development plan (1994-1998), provide excellent opportunities for U.S. exports. Sales of computer-assisted design systems, new capital equipment for textile, clothing, footwear production, medical equipment, environmental equipment, and services are also expected to grow. U.S. pressure resulted in the adoption of a new copyright law in 1994 and a new patent law in 1998 Investment climate In February 1997, the government revised its policy on foreign direct investment, permitting 100% foreign ownership in certain cases. Regulations on foreign portfolio investment in the Cyprus Stock Exchange also have been liberalized. Additionally, Cyprus passed a modern banking law in July 1997, incorporating all the provisions and directives of the EU for the prudential supervision of credit institutions. Cyprus has concluded treaties on double taxation with 26 countries, including the U.S., and has removed exchange restrictions on current international transactions. Non-residents and foreign investors may freely repatriate proceeds from investments in Cyprus. Offshore sector The 1,049 full-fledged offshore companies--which are located in Cyprus but conduct business abroad only--qualify for various tax- and duty-free concessions. Foreign exchange earnings from offshore companies rose to $346 million in 1997. There are about 40 U.S.-owned firms in Cyprus; about half operate exclusively on an offshore basis. U.S. firms are mainly engaged in the regional marketing of computers, computer graphics, telecommunications, printing equipment, household products, and soft drinks. Since 1994, re-entry visa provisions have been streamlined and 3-year work permits have been introduced for offshore employees. 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, hosts the Commercial Awards dinner, and organizes other events to promote U.S. products throughout the year. Total U.S. exports to Cyprus were about $700 million in 1997 (compared with $670 million in 1996), making the U.S. Cyprus' number-one supplier of total imports for the third year in a row. Exports include American tobacco and tobacco products, automatic data processing and other machinery, and cereals. Principal U.S. imports from Cyprus consist of clothing, footwear, steel tubes and pipes, dairy products, and various food items. Turkish Cypriot economy The economic disparity between the two communities is pronounced. Although the Turkish Cypriot area operates on a free-market basis, the lack of private and governmental investment, shortages of skilled labor and experienced managers, plus inflation and the devaluation of the Turkish lira (which the Turkish Cypriots use as their currency) continue to plague the economy. A Greek-Cypriot-organized economic boycott of the Turkish Cypriot region also has negatively affected the Turkish Cypriot economy. Turkey is, by far, the main trading partner of the "T.R.N.C.," supplying 55% of imports and absorbing 48% 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 Northern Cyprus based on certificates of origin and phytosanitary certificates granted by "T.R.N.C." authorities. The ECJ decision stated that only goods bearing certificates of origin from the Government of Cyprus could be recognized for trade by EU member countries. That 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 $24.7 million in 1996 (or 35% of total exports) in 1996. Even so, the EU continues to be the "T.R.N.C.'s" second-largest trading partner, with a 24.7% share of total imports and 35% share of total exports. Assistance from Turkey is the mainstay of the Turkish Cypriot economy. Under the latest economic protocol (signed January 3, 1997), Turkey undertakes to provide Turkish Cypriots loans totaling $250 million for the purpose of implementing projects included in the protocol related to public finance, tourism, banking, and privatization. Fluctuation in the Turkish lira, which loses about 50% of its value against the U.S. dollar every year, continues to exert downward pressure on the Turkish Cypriot standard of living. Turkish Cypriot authorities have instituted a free market in foreign exchange and authorize residents to hold foreign-currency denominated bank accounts. This encourages transfers from Turkish Cypriots living abroad.