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The Impact of the Current Financial Crisis on the Region of Central and Eastern Europe. Vladimír Dlouhý seminar of the Informal Meeting of the EU Council Working Group on Export Credits Prague, May 22, 2009. Data source: World Economic Outlook, IMF, April 2009 GS Economic Research Eurostat
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The Impact of the Current Financial Crisis on the Region of Central and Eastern Europe Vladimír Dlouhý seminar of the Informal Meeting of the EU Council Working Group on Export Credits Prague, May 22, 2009 Data source: World Economic Outlook, IMF, April 2009 GS Economic Research Eurostat Haver Analytics World Bank
Global framework (1) US • Origin of crisis triggers: housing market, securitization techniques, accommodative monetary policy • In the short-term, real economy suffered most (+ weakening the geopolitical position) Western Europe + developed Asia • Suffering from collapse of global trade + own financial problems + (in some countries) need for housing market corrections as well Emerging markets (notably CEE and emerging Asia) • Suffering from collapse of trade as well + problems with access to external financing
Global framework (2) • Deflationary dangers • Commodity prices remain weak • Wages and profits curtailed • Public policies so far less efficient • Globally expected write-downs: 4 T (1012) USD • Uncertainty - private capital not active • No issuance of new securities, limited bank-related flows, bond spreads up, equity prices down, depreciation of many of EM currencies • Flight to safety: USD, Euro, Yen appreciated, as well as pegged currencies (Rmb)
Outlook - risks (1) • Financial stabilization - longer than expected • Developed economies: slow-down in credits BOTH in 2009 and 2010 • EM: curtailed access to external financing • Existing policies will continue • Monetary: interest rates 0 and monetary easing via central banks’ B/S • Fiscal stimulation: G20 2% GDP in 2009, 1.5% GDP in 2010 • Truly global crisis • Commodity prices will remain week • Negative growth will cover about 75% of global economy
Outlook - risks (2) • Policies not efficient enough or even counterproductive • Low fiscal multipliers • Monetary easing and capitalization of financial institutions slow down in deleveraging • Both for financial institutions and corporate sector, risk on the downside • Estimated need for recapitalization of banks - US: 275-500 BUSD, Europe (with UK): 475-950 BUSD, UK: 125-250 BUSD • Rising corporate and housing defaults further fall asset prices and losses across corporate B/S’s • Danger of trade and financial protectionism
Outlook - risks (3) • Financial restructuring • Dealing with distressed assets • What are weak, but viable institutions? • EM: corporate sector faces much higher risk from collapse of financial sector • Monetary policies • Specific for EM, fragile financial flows,danger of sudden stops, much more careful easing • Fiscal policies • Short-term efficiency? • Prevailing view: yes • Medium-term sustainability: budget deficit, inflationary pressures
Main facts • Deeper and longer recession • Both industrial production and exports still suffer • Increase of unemployment to the level close 10% • Core inflation beyond 1% • Paradox: “well behaving” countries, with strong export potential, suffer most (Germany) • Signs of improvement (PMI, etc.)? • Too early to call • Be realistic
Background: banking sector • Bank's losses and over-leveraging • self-protecting tightening of credits, well beyond a cyclical one • Extraordinary reaction to shore up confidence in banking system so far without effect • Financial conditions to stay tight for whole 2009 and first half of 2010 • German and Austrian banks?
Background: fiscal and monetary policies • Fiscal policies: • Strong automatic stabilizers dampening downturn - contribution to growth: +2.4 pp in 2009, +0.4pp in 2010 • Discretionary: fiscal packages in several EU countries • Monetary policies: • ECB cutting down • Considering unconventional easing
CEE Region • All countries - similar features of past 5 years of economic development: fast growth • driven by external demand • with deficits and often debt (of households, corporation and governments) financed from external resources • in many countries the situation substantially worse than in CZ: deficits, debts, reliance on external financing, loans in foreign currencies, vulnerability of banking sector, distortion of industrial structure, mandatory budget expenditures, etc. • Global markets until recently, unified view on the region • Not distinguishing enough among the countries • General view influenced by the worst performing country (“contagion” danger)
Crisis - two basic facts (1) 1. External shock slow-down of economic growth • Fall of demand for exports • Lower profits, lower wages decline of consumption • General consequences of global financial crisis • uncertainty investment decline (including sharp decline in FDIs) • Collapse of equity markets • Banking sector problems, „almost“ credit crunch • Unemployment, social consequences, etc.
Crisis - two basic facts (2) 2. Macroeconomic destabilization • Lack of confidence, danger of “sudden stop” of external financing sustainability of (even short-term) debt • NPL share in domestic banks has dramatically increased (with notable exception of some countries, namely CZ) impact on large, Eurozone based banks • Dramatic decline of capital inflow in general • In some countries an outflow simultaneously
Short-term consequences • October 08 - March 09: speculation on destabilization of some CEE economies + unnecessary media hysteria with quite unfortunate consequences • Depreciation of all floated currencies in the region • Real economy adjustment more pronounced for economies with pegged currencies (SK, SLO less so) • Problems of some short-term governmental bonds issue, increase of spreads • All this at quite low inflation • Slow pass-through into prices + decrease of commodity prices
Economic policy difficulties Contradictory requirements on economic policy • General impact of the crisis: • Monetary easing (including so called non-traditional steps) • Region's Central Banks could have - at the beginning - decreased interest rates disregarding the depreciations (on the contrary, some positive effects on exports) • Fiscal policy pressure (higher social expenditures, automatic stabilizators, calls for fiscal incentives) • Generally: anti-cyclical policies required • Short-term destabilization: • Very restricted space for increase of deficits, but even - at least within past weeks - for monetary easing as well
Selected data (and what they imply) • Region has better basic macro-parameters than most of Eurozone countries (with important exceptions) • CEE is not a consistent group of countries • Different countries suffer with different level of economic vulnerability • Sub-group of Eurozone (IRL and a so-called ”southern flank”) - reveal an extreme worsening of basic macroeconomic forecasts • However, risks covered by Eurozone
Region‘s vulnerability • At some countries (Baltics, H, but to some extent RO and BG as well) lack of credibility still prevails • Short-term debt sustainability more important than basic macro-parameters • „Sudden stop“ fears • Market sentiment to much extent determined also by countries outside EU (Ukraine, Turkey) • Recent weeks - stabilization • International institutions ready to provide support • Risks still exist • Uncertainty around large banks in the region (Erste, KBC, Unicredit, Raiffeisen, …) • Useful (despite many differences) comparison with selected south-Asian countries prior to 1997-8 crisis
Credit tightening • Lower Central Banks’ rates did not translate into lower borrowing costs • On the contrary • Credit cycle turned swiftly down, no bottom in sight • Lending rates increased • Demand or supply credit shock? • Supply! • Reasons: sharp increase of NPLs and tighter external funding • Czech banks probably positioned best in the whole region, but credit tightening will continue in CZ as well
Current account, % of GDPAsia 1996, CEE 2008 * Narrow Balance of Payments = CA + Net FDI Source: Goldman Sachs, Haver Analytics, WB
Conclusions for region (1) • Different level of stability • Some countries (CZ, PL) very solid short-term debt sustainability • Vulnerable industrial structure • Sluggish export demand beyond January 1, 2010 • Credit tightening will continue • Despite historically low Central Banks’ interest rates • GDP contraction from around -1% (PL, SLO) to more than -10% (Baltics), low inflation, substantial increase of unemployment • Regional and structural differences • Currencies - depend on stability in the region and potential “contagion” effects • The fate of pegs?
Conclusions for region(2) • Still possible adjustment on equity markets • Autumn 2009? • Forced sales • Both 2009 and 2010: Government Balance and Current Account probably beyond Maastricht criteria • Much better than most of EU countries • Is it a problem? • Link to Euro • Momentum for medium-term reforms?
Economic policies (1) • Solution to today‘s crisis is outside CEE • Mostly small open economies, dependent on the re-start of Eurozone economic growth • Stabilization and adjustment homework in countries that are most unstable • Crucial role - Central Banks • Monetary policies, facing contradictory requirements • Regulation and supervision • Fiscal policies - contradictory pressures again • Political pressure to increase expenditures - stimulative, social, etc. • For some countries , violation of Masstricht criteria is not - in the short-term - any tragedy • In other group of countries, Maatricht can serve as a political imperative to defend adjustment policies • On the other hand, for all countries, the „contagion“ danger is not over - macroeconomic stability requirements should prevail
Economic policies (2) • Short-term measures: • Danger of politicization • Demand-side stimulation • Efficiency? • Only when there are no doubts • Infrastructural projects - yes, but time-lags problem • Future deficits • Supply-side policies • Yes, but even here time-lags danger • Opportunity to pursue the reforms • Problem of political will • Social policies - targeted to affected groups and regions
Economic policies (3) • In multilateral framework: • Avert trade protectionism • All available resources to foster trade • Trade financing is crucial • Insurance and guarantees of trade and financial risks • Crucial: EU policies towards banking sector and impact on behaviour of banks present in the region • Adjustment policies in problem countries • Active discussion on Euro - potential anchor for expectations • Maastricht's criteria - for another countries and another time
