Thursday, May 21, 2009

CEE economics

Central and Eastern Europe

No panic, just gloom

May 14th 2009
From The Economist print edition

The region as a whole may have avoided economic meltdown, but several countries still face a painful slump

THANKS to a mix of luck and good decisions, the economic apocalypse that loomed over central and eastern Europe seems to have been averted. But dizzy current-account deficits, wild foreign-currency borrowing and reckless fiscal policy are leaving a horrible hangover for some. The IMF forecasts a 4.9% average fall in GDP, with far bigger falls for some. The European Bank for Reconstruction and Development (EBRD) reckons on a 5.2% drop. The downturn is certainly nasty; but some changes have staved off the worst.

One change is that outsiders now assess risk more calmly and rationally. All the former planned economies remain capital-thirsty. But otherwise they are all different. Indeed, a rare common factor among 20-odd countries in the region with the “ex-communist” tag is that they dispute its relevance. Tarring all with the mistakes of overheated Latvia, chaotic Ukraine or debt-sodden Hungary makes no sense. Nor does lumping together rich and poor countries, or those in the European Union and those outside. Exchange-rate regimes vary: two countries are in the euro; five countries have pegged their currencies to it; others float.

So far at least, speculators who counted on contagion toppling countries like dominoes have little to show for it, while those who bet the other way have juicy gains. Poland’s stockmarket is up by nearly 40% since its low in February, Hungary’s has risen by half and Russia’s by nearly 90%.

Outside help is also now better co-ordinated. The previously standoffish IMF co-operates with the European Commission, national governments and the banks. Once seen as a lender of last resort, it now acts pre-emptively. In May it gave a $21 billion credit line to Poland, the biggest and strongest economy in the region. That is quite different, officials stress, from the emergency rescues of Belarus, Latvia, Hungary, Romania, Serbia and Ukraine.

The IMF is also behaving more gently. Ukraine was originally told to balance its budget this year. Now the IMF says a deficit of 4% of GDP is realistic; this month it released its latest $2.8 billion tranche. Officials are uneasy about insisting on fiscal tightening that may aggravate recession. Latvia is likely to be allowed to run a 7% deficit for this year—in return for promising, really and truly, to reach 4% in 2010.

A third change is that more aid has been given to western banks that face souring loans, typically to clients in Hungary and the Baltic states who borrowed in euros or Swiss francs. As outsiders cut back, a credit squeeze is threatening even healthy borrowers. A joint initiative by the EBRD, the World Bank and the European Investment Bank (which used to lend only to state-backed infrastructure projects) has raised $24.5 billion for banks and other firms across the region. The EBRD is putting €432m ($590m) into UniCredit, an Italian bank heavily exposed in eastern Europe. It is thinking of investing in 12 other west European banks. Countries such as Sweden have national schemes too.

In a new report, the IMF argues that European banks still need a lot more help. But the cash and guarantees given already have eased the greatest threat to the region: that western banks might pull out or sink under the weight of their eastern loan books. Meanwhile central Europe, home of many big car factories, has gained from rich-country governments’ efforts to help their car industries. Neil Shearing of Capital Economics, a consultancy, reckons that German and other scrapping schemes to boost car sales will add fully 1% to GDP in Slovakia, and 0.5% in the Czech Republic and Hungary.

The biggest worry now is the Baltic three, which are seeing the sharpest falls in GDP. Estonia’s first-quarter figures showed a year-on-year decline of 15.6%. The fall in Latvia was a stunning 18% and in Lithuania 12.6%. Monetary policy cannot counteract this, since all three are pegged to the euro. And fiscal policy offers no respite. Politicians are pushing through spending cuts, not only to reassure external lenders, but also to meet the Maastricht deficit target of 3% of GDP so as to adopt the euro soon (by 2011, Estonia hopes).

“The crisis is even good if it makes the state more efficient,” says Andrus Ansip, the Estonian prime minister, who is cutting overall public spending by nearly 12%. He has slashed a fifth of the posts in his own chancellery, he says proudly. “Inefficient” spending will be cut; budgets vital for future growth will be preserved, he insists.

Devaluation is still largely taboo in the Baltics. The national currencies are not just economic symbols of solidity, but political ones too. Instead, they hope to regain competitiveness through wage cuts and greater efficiency. Such an “internal devaluation” is possible in theory, but it is unusual (and painful) in practice. It may work: Latvia now has a current-account surplus as its exports rise. Outsiders are awed by the Balts’ determination, though sceptical that the sacrifice will pay off.

Still, while industries such as construction collapse, others, such as alternative energy, are growing. Mr Ansip cites Estonia’s niche in windpower technology. In Latvia a firm called Carbon Neutral Biofuels has raised money for a $10m plant to turn low-grade wood into fuel pellets for Dutch power stations. Adrian Riley, the boss, says the crunch is “a return to reality after a period of acute silliness” when high costs threatened his project’s viability.

The Baltics may be a special case: small, relatively well run, with flexible economies and friendly Nordic neighbours. The broader worry across the region is political. Street protests have been muted so far, and some anger against the smug, corrupt and incompetent politicians who squandered the chances of the past decade is anyway healthy. But the European elections in early June may show how voters are reacting to hard times.

Government crises have not brought big changes. The Czech Republic’s centre-right coalition lost its majority in March amid a row with the headstrong president, Vaclav Klaus. But the result has not been chaos. Until elections in October, a competent-looking caretaker government will run the country, headed by the chief statistician, Jan Fischer. In Hungary a discredited Socialist prime minister, Ferenc Gyurcsany, resigned, nominating an economist, Gordon Bajnai, to run the government until an election next spring. He is pushing through tough spending cuts, with GDP likely to fall 6% this year.

Ivan Krastev, a Bulgarian-based analyst of the region’s politics, says the fear of unemployment will disillusion middle-class voters and stoke protest voting. A bigger problem may be the fear among political elites, some of whom will stick at nothing to stay in power and out of jail. “The model is Berlusconi,” he says glumly.

1 comment:

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