Download Are CEE economies at risk of overheating?

Press release
16 March 2017
Erste Group Research: Are CEE economies at risk of
overheating?
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Economic growth continues apace in CEE (3.3% expected in 2017), yet substantially improved
current account positions – and in many cases even surpluses – point to balanced rather than
overheated economies
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Inflation rates have increased significantly; yet they may peak in March and undergo a correction
after that in all countries except Romania
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Despite increasing inflation (+2PP on average), most CEE central banks will remain in wait-and-see
mode until it is settled above target for a longer period of time
•
Stricter macro-prudential policies such as those seen in the Czech Republic, Slovakia and Poland
may delay need for rate hikes, as they tighten credit conditions
The raft of strong recent macroeconomic data in Central and Eastern Europe, such as steeply increasing inflation
rate, tightening labor markets and buoyant manufacturing production may prompt a legitimate question: is
economic overheating on the horizon for CEE countries? To detect any early signs of such a phenomenon
potentially occurring, Erste Group analysts use current account deficits as an adequate benchmark for open
economies such as CEE ones. They point out that a material deterioration in the current account would flag
emerging imbalances in the economy. At the moment, however, this does not seem to be the case.
“Both from a historical and a fundamental perspective, current account balances in the region look very good.
Prior to the crisis, all CEE countries ran huge – in some cases even double-digit – current account deficits relative
to GDP. While current account deficits are not problematic in and of themselves, given that converging economies
need to attract foreign capital, the fact that in CEE they were excessive and often debt-financed increased the
vulnerability of the economies during the financial crisis in 2008 and 2009.
Since then however, CEE economies have rebalanced and made tremendous improvements to their current
account balances, even turning them into surpluses in Croatia, the Czech Republic, Hungary, Slovenia and
Slovak ia. The largest part of the adjustments has been driven by the positive development of the trade balance.
Dropping commodity prices and the stronger inflow of EU funds have also contributed to improved current
account positions,” explains Juraj Kotian, Head of CEE Macro/FI Research at Erste Group.
Inflation rates have increased significantly – but most central banks are expected to remain in wait-andsee mode
The inflation rate in CEE has increased substantially i.e. by about 2pp on average since September 2016.
However, a large part of the increase had been anticipated and had nothing to do with demand pressure; the
strong reverse in oil and energy y/y price development was caused by the abnormally low base in Q1/2016, rather
than the steep increases in recent months. Inflation rates have either reached or came close to the target in the
Czech Republic, Hungary, Poland, Slovenia and may climb further in March, but a correction is expected to ensue
as the base effect resulting from low oil prices in Q1/2016 will start to diminish. That is why Erste analysts do not
expect central banks to act prematurely and rush to hike interest rates anytime soon. “We expect central bank s
will rather remain in wait-and-see mode and not act until they see core inflation being settled above the target for
a longer time or with a safe margin,” points out Zoltan Arokszallasi, Chief Analyst, CEE Macro/FI Research.
.
Erste Group is the leading financial services provider in the Eastern part of the EU. Approximately 47,000 employees serve 15.9 million customers in over 2,600 branches in 7 countries
(Austria, Czech Republic, Slovakia, Romania, Hungary, Croatia, Serbia). As per year-end 2016, Erste Group had EUR 208.2 billion in total assets, a net profit of EUR 1.26 billion and a core
capital ratio (CET1, Basel 3, phas ed-in) of 13.4%.
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Serbia is the only CEE country where analysts expect the key rate to be hiked this year (also in reaction to Fed
hikes due to the significant role of the investor base in USD). In Romania, only the overnight deposit rate might be
lifted in order to bring money market rates closer to the key rate. The strongest monetary policy action in reaction
to higher inflation should be seen in the Czech Republic. “We expect the Czech National Bank to abandon its
foreign currency cap policy in April and avoid further speculative hot money inflow into the Czech k oruna. A
stronger k oruna in the medium term should tighten monetary conditions in this export-orientated economy and
help to tame inflation,” Zoltan Arokszallasi concludes.
First round of tightening conducted via stricter macro-prudential policies
Before central banks in CEE decide to lift interest rates, Erste Group analysts expect some credit tightening to be
conducted via stricter macro-prudential policies. Some initiatives are already under way in the Czech Republic,
Slovakia and Poland, where regulators have requested higher down payments for mortgages, lower loan-to-value
and debt-service-to-income ratios.
2017 outlook
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Growth in the CEE region is expected to accelerate to 3.3% (versus 3.0% in 2016), fuelled by domestic
demand. Household consumption is expected to remain the backbone of this growth, while investments could
recover after the poor performance in 2016, mainly due to EU funds.
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The inflation rate is projected to increase by more than 2pp on average in 2017 compared to 2016, with the
peak expected in March (due to the base effect). Afterwards, inflation should moderate or even retreat in CEE
countries, excepting Romania, where inflation has been kept artificially low, thanks to a cut of indirect taxes.
As this effect will fade out, the inflation rate is going to end up much higher in Romania by year-end compared
to where it stands now.
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Current account balances will deteriorate only slightly (by 0.4PP on average), and the region should remain
in a minor surplus (0.2% of GDP). Within CEE, Romania should experience the strongest widening of the
current account deficit (by about 1pp to 3.3% of GDP), but the deterioration should be contained, as some
tightening should come from the fiscal side next year, given that Romania might be put under the Excessive
Deficit Procedure by the EC in 2018, due to its overshooting a 3% deficit.
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CEE currencies will continue to diverge in the coming quarters. By year-end, two currencies might become
stronger vs. the euro, with three weaker compared to now. The Czech koruna fundamentally has the largest
potential to gain after the abandonment of the FX cap, but the excessively high stock of long positions in
Czech koruna looking to be closed may limit the gains or even cause some strong corrections. Erste Group’s
analysts see some room for appreciation of the Polish zloty vs. the euro by year-end, as Poland offers an
interesting carry relative to fundamentals, while the Polish market may start to price in the first rate hike in the
first half of 2018 too. In Romania and Hungary, where both central banks have some dovish bias, currencies
might mildly depreciate, which is not going to cause worries to central banks, and is currently seen as a
desirable outcome.
Press department:
Michael Mauritz (Head of Group Communications)
Carmen Staicu (Spokesperson f or the Group)
Peter Klopf (Group Press Of f icer)
Tel: +43 50100 – 19603
Tel: +43 50100 – 11681
Tel. +43 50100 – 11676
E-Mail: [email protected]
E-Mail: [email protected]
E-Mail: peter.klopf @erstegroup.com
This press release is also av ailable at: www.erstegroup.com/pressrelease
Erste Group is the leading financial services provider in the Eastern part of the EU. Approximately 47,000 employees serve 15.9 million customers in over 2,600 branches in 7 countries
(Austria, Czech Republic, Slovakia, Romania, Hungary, Croatia, Serbia). As per year-end 2016, Erste Group had EUR 208.2 billion in total assets, a net profit of EUR 1.26 billion and a core
capital ratio (CET1, Basel 3, phas ed-in) of 13.4%.
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