Region Witnesses Renewed Volatility, Greece in the Limelight Again
Emerging European economies witnessed renewed volatility as the New Year unfolded. Russia, the largest of the economies covered in this review, appeared particularly vulnerable as President Putin has not yielded his stance on Ukraine despite the damage inflicted to his country by the Western sanctions and plunging oil prices. Central Europe as a region had hoped at the beginning of 2014 for a steady economic recovery. However, anemic growth in the Euro-zone and the Ukraine crisis played spoilsport, making the region reliant on domestic demand more than ever. Countries such as Poland, the Czech Republic, and Hungary are closely aligned to the economic fortunes of the Euro-zone, which is the destination for a majority of their exports.
Despite domestic problems related to the authoritarian functioning of President Erdogan, Turkey seems to be slightly better off compared to its peers in Central and Eastern Europe, helped by lower energy prices. Greece is back in global focus after the anti-austerity opposition party Syriza came to power in January elections.
At a Glance
Russia: The largest of the emerging European economies appeared particularly vulnerable as President Putin has not yielded his stance on Ukraine despite the damage inflicted to his country by the Western sanctions and plunging oil prices.
Turkey: Economic growth improved in the fourth quarter after slowing down to 1.7 percent on an annual basis in the third quarter. As growth remains weak in Turkey’s export markets of Europe, Iraq and Russia, Turkey will be dependent mostly on domestic demand for growth this year.
Poland: Though the Polish economy did not show sustained momentum during the year, the country posted a growth rate of 3.3 percent in the third quarter, which was above expectations. Poland’s significant economic ties with Russia made things difficult for the former Soviet satellite in the wake of the sanctions imposed by the West on companies doing business with Russia.
Hungary: More than external factors such as the slowdown in the Euro-zone and the fallout of the Ukraine crisis, various government policies appear to fuel investor concerns about certain areas of the economy, especially in the banking and utilities sectors.
Czech Republic: The economy has done well during the year, powered mostly by the automotive parts manufacturing sector, and also helped by the devalued koruna, which gave a boost to exporters.
Greece: Though the new government initially created a flutter in Europe by giving hints of going back on reforms mandated by the country’s creditors, the Tsipras administration appears to have changed tack recently. The Prime Minister said he hopes to strike a deal with the International Monetary Fund, the European Central Bank, and the European Union as soon as possible.
RUSSIA: FAINT HOPES FOR A BETTER YEAR
Russia had started 2014 on a cheerful note as it hosted the Winter Olympics in Sochi, with higher oil prices providing the perfect fillip. As the economy rings in the New Year, the territorial drama with Ukraine combined with the collapse in energy prices appear to have impacted the country’s near-term economic fortunes.
Though Russia posted a marginal growth in 2014, the economy is widely expected to experience a recession in the current year. Confirming the pessimistic point of view, Russia’s Economy Minister said he now anticipates that the economy will contract by 3 percent in 2015 if oil prices remain at $50 a barrel, the first year of negative growth since 2009, according to a WSJ news report. The recent downgrading of Russia’s credit rating to “junk” by Standard & Poor’s also dented the country’s image in the eyes of investors.
Though President Putin remains popular at home, Western sanctions provoked by his actions have dealt a big blow to Russia’s economy and businesses. The banning of food imports from Europe and elsewhere led to a surge in the price of some of Russian staples, which hit the working class the hardest. While sanctions shut out Russian companies from the capital markets, investors ran for cover, making Russia the world’s worst performing equity market in 2014. Sadly, the contagion has not been limited to the borders of the country, but also hit economies and companies which have close ties with the Russian market.
With oil prices showing no signs of a rebound in the New Year as global demand remains weak amid surging production, Russia’s prospects in the months ahead appear bleak. In response to the nearly 40 percent plunge in the currency ruble versus the U.S. dollar in 2014, Russian retailers had to increase consumer prices. Meanwhile, the Central Bank of Russia reduced interest rates in a surprise move. The cut to 15 percent from 17 percent is ostensibly aimed to arrest the slowdown in economic activity in the country. However, it is widely perceived that the move will not help much in containing inflation, which is expected to accelerate to 12 percent in 2015. Recently, Russia has been trying to dip into its huge international reserves, currently estimated at about $388 billion, to support some of its strategic sectors such as energy and banking, which have been hit hard by the ruble’s loss of value.
TURKEY: GROWTH IMPROVES, INFLATION FALLS
Turkey’s economic growth improved in the fourth quarter after slowing down to 1.7 percent on an annual basis in the third quarter. Weak domestic consumption and investment hurt growth in the third quarter, while government spending and exports held steady. However, the oil importing economy received an unexpected boost from the recent fall in energy and commodity prices, which should also help to bring down inflation.
The Turkish central bank hopes to bring inflation closer to its target of 5 percent next year. The bank left the interest rate unchanged in its policy review though rate cuts are likely to occur in 2015 as cheaper oil reduces inflation and the country’s current-account deficit. On another note, the currency lira lost value against the U.S. dollar toward the end of December as part of a general sell-off in emerging markets. Domestic disturbances in the aftermath of the arrest of some journalists also contributed to the fall of the lira. Recently, the central bank raised the reserve requirements for Turkish banks to shore up the currency.
As growth remains weak in Turkey’s export markets of Europe, Iraq and Russia, Turkey will be dependent mostly on domestic demand for growth this year. The European Union is by far the single largest market for Turkish exports. Russia too is a major market for Turkey as some of its exports go there, while some Turkish firms have interests in construction. Iraq, of course, remains ravaged by the war against Islamic militants. As Turkish citizens go to the polls in June 2015, the government is likely to increase spending, which should boost economic growth.
Meanwhile, the way Turkey is run by President Erdogan has been a matter of concern for quite some time to foreign investors in the country. The increasing intolerance of the Erdogan administration against the voices of dissent has also played a part in diminishing Turkey’s image abroad.
POLAND: BANKING ON DOMESTIC DEMAND AS EURO-ZONE SLOWS
Though the Polish economy did not show sustained momentum during the year, the country posted a growth rate of 3.3 percent in the third quarter, which was above expectations. Poland’s significant economic ties with Russia made things difficult for the former Soviet satellite in the wake of the sanctions imposed by the West on companies doing business with Russia. Moreover, Russia’s ban on food imports has affected Poland, a major farm producer. And slowing growth in the Euro-zone, especially Germany, hit Poland’s exports to the currency union.
However, Poland has a large domestic market, the biggest in the Central European region, which has stood the country in good stead even during the financial crisis of 2009. In fact, Poland was the only member of the European Union to escape recession during that time. Once again, the spotlight is on the resilient Polish consumer to keep the economy going in the current economic climate. There are certain factors that favor increased domestic consumption in the country. Real income growth and falling inflation have given a boost to consumption. Moreover, unemployment has come down to the lowest level seen in the last five years. What’s more, these vital economic signs are expected to improve further in the years to come. Investment growth, too, has remained strong, while private investment has received a boost from low interest rates and growth in credit.
Consumer prices fell by 0.6 percent in November, raising concerns that Poland will also have to grapple with a deflation problem. The Polish central bank has kept the interest rate at a meager 2 percent since November, saying it will make a move only if economic growth slows. It is widely expected that the Bank will leave the rates unchanged in January and February as well. Meanwhile, a purchasing managers’ index dipped in December, though the overall reading for the fourth quarter was better than the third quarter figure.
HUNGARY: CONCERNS OVER BIG GOVERNMENT
The small central European economy of Hungary appears to have still other challenges. More than external factors such as the slowdown in the Euro-zone and the fallout of the Ukraine crisis, various government policies appear to fuel investor concerns about certain areas of the economy, especially in the banking and utilities sectors. Some government actions, such as asking banks to compensate borrowers for so-called “unfair” lending charges, rubbed investors the wrong way. In fact, a Fitch report identified Austrian banks with huge stakes in two Hungarian banks that are looking to exit Hungary, rather than expanding their portfolios.
To be fair, the Viktor Orban administration has played its part by utilizing funds from the European Union to boost economic growth, which is estimated to be about 3.2 percent for 2014. But it appears that government funding alone cannot keep fueling the economy. In Hungary’s small market, private sector growth has been driven by the automotive sector, which continued to expand during 2014. Sadly, higher foreign participation in other sectors such as retail and media has been stalled due to unfavorable government policies. Meanwhile, slowing demand growth from the Euro-zone had its effects on factory output in central Europe, and Hungary was no exception. The Hungarian Purchasing Managers’ index recorded a steep fall from 55.0 in November to 50.7 in December.
Against this backdrop, the European Commission (EC) has forecast growth in Hungary to slow down to 2.5 percent in 2015, with the Hungarian economy growing at 2 percent in 2016. Meanwhile, inflation is not completely subdued as the effects of the reduced utility rates wane. Still, the contagion effect of the Euro-zone deflation is likely to keep consumer price increases under check. Alongside, interest rates are also likely to be kept low.
CZECH REPUBLIC: DOMESTIC DEMAND SHOWS SIGNS OF GROWTH
Since the country emerged from a recession in the second quarter of 2013, the economy of the Czech Republic has been on a steady course for many quarters now. Though the purchasing managers’ index showed a decrease during the month of December, the lower reading could be attributed to the slowing demand from the Euro-zone. Still, the economy has done well during the year, powered mostly by the automotive parts manufacturing sector, and also helped by the devalued koruna, which gave a boost to exporters. Despite the pick-up in domestic demand thanks to the loose fiscal policy, the Czech economy relies heavily on the automobile manufacturing sector and exports to the Euro-zone.
It appears that the ushering in of a new government administration in January 2014, whose approach has differed from the previous Petr Necas administration and its focus on austerity measures, has lifted the country. Specifically, increased government spending, which helped improve the labor market over the past year, has given a boost to the Czech economy in recent quarters.
While Finance Minister Andrej Babis is leaving no stone unturned to keep the budget deficit below the stipulated target, the uptick in domestic demand could be upset by any negative economic developments in the Euro-zone. Still, strong retail sales could be the key to any reasonable strengthening of consumer demand in the economy. Lower inflation, thanks to deflation in the Euro-zone and weak commodity prices, should see monetary policy remaining unchanged in the near term.
According to Business New Europe, the European Commission believes that the rise in public sector wages and pensions and reduction in taxes should give a fillip to domestic demand in 2015. Reflecting the optimistic view, the EC has projected that real GDP should grow 2.5 percent in 2014 and increase by 2.7 percent in 2015.
GREECE: POLITICS HOLDS THE CENTER STAGE, AGAIN
In the Greek elections held on Jan. 25, the left-leaning Syriza Party, which is opposed to EU-mandated austerity measures, came to power with Alexis Tsipras taking over as the new Prime Minister. Though the new government initially created a flutter in Europe by giving hints of going back on reforms mandated by the country’s creditors, the Tsipras administration appears to have changed tack recently. The Prime Minister said he hopes to strike a deal with the International Monetary Fund, the European Central Bank, and the European Union as soon as possible.
Moreover, Greece seems to have found a new ally in France, which supports the Tsipras government’s move to renegotiate the terms of the bailout to mitigate the severity of some of the austerity measures. Joining the chorus that also includes Italy, President Obama recently aired the view on CNN that Greece also needs “a growth strategy” besides fiscal prudence, asking for a softer approach from Germany towards debtor countries in the Euro-zone. Germany, the bulwark of the Euro-zone, has always maintained that it will support beleaguered economies such as Greece only if they agree to implement tough reforms.
Still, the Greece of 2015 is a far cry from what it was in 2010. Importantly, a major portion of Greece’s debt is held by governments and lenders such as the IMF, with only a smaller percentage held by the private sector. As things stand now, the chances of Greece leaving the Euro-zone appear to be slim, and should it choose to exit, a contagion effect on other economies in the Euro-zone will likely be limited. The 19-country currency bloc has put in place a permanent sovereign rescue fund and European banks have only limited exposure to Greece. As in 2010, though, the problems in Greece also attract attention as a pointer to the state of affairs in the larger currency union. It is no different this time as deflation looms large in much of the Euro-zone even as Germany, the biggest economy in Europe, is sputtering.
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