Tuesday, 28 September 2010

Uneven Crisis in Central-Eastern Europe

The economic crisis has unevenly hit Europe. Those countries on the continent's periphery – such as in Central-Eastern Europe and Southern Europe - were most seriously affected by the crisis. Also, when we compare the CEE countries, we can see how the crisis impacted differently upon them. This post shall consider this latter point.


II Quarter 2009


The table below shows how the average economic contraction in the II quarter of 2009, in the EU10 countries (taken here as being those countries from CEE that joined the EU in 2004 or 2007), was nearly two times as great as in the EU 15 countries (i.e. those nations that made up the EU before 2004). The largest economic declines were suffered in CEE – with the Baltic States all falling by over 16%. Meanwhile, the largest economic falls in the EU15 nations were in Ireland (-7.3%) and Finland (9%).


However, the general economic contraction in CEE was not even and its immediate causes were different throughout the region:


• Those countries most exposed to the financial crisis and most reliant upon foreign credit suffered the largest economic declines (e.g. the Baltic States). These countries had large private debts often taken out in foreign currencies.


• Hungary was also one of the countries to be hardest hit initially by the crisis – although it was unique in the region for its debt problem being mainly situated in the public sphere.


• Those economies that were most reliant upon exports (e.g. Slovakia, Slovenia and the Czech Republic) also suffered large economic contractions due to the fall in demand in Western Europe. This was exacerbated due to their over-reliance upon one industry: the car industry.


• The newest EU member states (Bulgaria and Romania), which already had the lowest living standards, suffered severe contractions. This was partly due to the fact that they were not included in the EU's 2007-13 budget and therefore have not been recipients of large EU funds.


• Poland was the only EU country to avoid negative economic growth in the II quarter of 2009. The reasons for this are considered below.

Country

GDP Growth II Quarter 2009

GDP Growth II Quarter 2010

Bulgaria

-4.9

-1.5

Czech

-3.1

2.2

Estonia

-16.1

3.5

Hungary

-5.3

0.1

Latvia

-17

-3.9

Lithuania

-16.6

1.4

Poland

1.5

3.8

Romania

-8.0

-1.5

Slovakia

-5.5

5

Slovenia

-9

1.5

EU10 Average

-8.4

1.6

EU15 Average

-4.9

1.5*

Source: Eurostat * Excluding Luxemburg

II Quarter 2010

By the II quarter of 2010 the situation had changed somewhat and the overall economic trends in CEE are clearer. The region's economies grew as a whole, although only at the anaemic rate of 1.6%, around the same as that in the EU15 countries. 7 out of the 10 CEE economies recorded positive economic growth during this period. A number of observations can be made:


• Both the Romanian and Bulgarian economies continued their decline, although at a slower rate. The Hungarian economy was stagnant during this period.


• Although Estonia and Lithuania managed to recover some of the ground lost in 2009, the Latvian economy continued to fall.


• The export-led economies of Slovakia, Slovenia and the Czech Republic all grew during the II quarter of 2010


• Poland continued its positive economic growth and outpaced all its neighbours.


A number of conclusions can be drawn from these results.


1. The 'financialised' economies suffered the most during the crisis and shows how the ideal of CEE creating globalised 'tigers' (attracting large inflows of private FDI and credit) led to an economic and social catastrophe. The economic contractions are worsened (as in the case of Latvia) when large austerity measures of cutting public spending have been introduced. This was the case in Bulgaria, Hungary, Latvia and Romania.


2. Membership of the EU has provided elements of protection to some countries. in CEE The inflow of EU money (i.e direct state funds) into CEE has helped to maintain investment during a time when private investment is suppressed. Those countries (Bulgaria and Romania) that have not received such funds have remained in recession. Also, membership of an enlarged market has helped the export dependent countries recover from the downturn. This has been aided by the subsidies given by the governments of Austria and Germany to their consumers to help boost car-sales. This recovery is very tentative however, due to the uncertain economic recovery in Western Europe.


Polish Exception


The question has to be asked why Poland has managed to avoid an economic contraction throughout the whole crisis? There are a number of explanations for this:


1. The economy was growing strongly prior to the crisis (at over 6%) and therefore did suffer a large economic decline (around 5%). It is therefore incorrect to say that the country has not been affected by the crisis, especially when we factor in the increase in unemployment, public debt, etc.


2. There was less private debt in the Polish economy than in most other European countries prior to the crisis, due to the 'conservative' lending policy of banks and the high interest rates in the country up until it joined the EU.


3. Investment has been maintained throughout the economic crisis through using the large amount of funds that have flowed into the country from the EU. This has been combined with a building programme connected to the country jointly hosting the 2012 European football championships.


4. The government has refrained from drastically cutting public spending and the budget deficit , which would have repressed growth.


5. The devaluation of the zloty following the economic crisis has boosted exports, which were then aided by the growth in the German economy in 2010.


Barriers to Growth


We have seen how the economic contraction and its tentative recovery have been uneven throughout CEE. There are a number of potential obstacles standing in the way of CEE having a sustained economic recovery:


• A halting of economic growth or return to negative growth in Western Europe – particularly Germany – would have severe consequences in CEE. These would be especially felt in the export-dependent economies but also in countries such as Poland and Hungary, which are heavily reliant on exports to Western Europe and Germany.


• The CEE economies are acutely vulnerable to international markets and a further flight of capital out of the region. The bond markets place intense pressure upon the governments of CEE to reduce their spending and bring down their deficits. Where the governments have applied such policies then economic growth has remained repressed (such as in Hungary and Latvia – this is also the lesson learnt from experiences in Western Europe.) If, for example, the Polish government were to implement such policies then it would endanger the country's relative positive economic performance. It would seem logical for the government to continue its investment programme through gaining the largest amount of EU funds possible – especially as the Euro2012 football championship approaches. It would also be futile and immoral to sacrifice spending in essential public services to fund such spending. However, Poland has a self-imposed barrier of public debt not crossing 55% of GDP – beyond which drastic spending cuts will have to be made. If it seemed that this would be breached then the 'markets' could punish Poland – pushing down the zloty, increasing the price of government bonds and thus worsening government debt.


It is in such a catch-22 situation that many of the CEE governments find themselves in. Of course such countries could be protected if the EU and the powerful Western European economies were to make a clear statement supporting the right of these countries to follow a programme of government/EU funded investment, which would help to boost economic growth and control government spending. With the European Commission seeking to apply further pressure upon eurozone governments to restrain public spending this is unlikely to happen. It is therefore time for the European left to begin applying pressure upon the EU through promoting an economic programme whose central emphasis would be on economic growth and cohesion.


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