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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
The world
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 bankrelated 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 - data
World
Advanced economies
Emerging and Dev.Ec.
USA
Euroarea
CEE
Japan
China
India
2009
-1.3
-3.8
1.6
-2.8
-4.2
-3.7
-6.2
6.5
4.5
2010
1.9
0.0
4.4
0.0
-0.4
0.8
0.5
7.5
5.6
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
European Union
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 for realism (1)
Industrial production, %, q-o-q
Real GDP, %, q-o-q
10
6
5
5
4
3
0
2
1
-5
0
-1
-10
-2
-15
-3
-4
-20
-5
Jan-97
Oct-98
Jul-00
Apr-02
Jan-04
Oct-05
Jul-07
Apr-09
Jan-97
Oct-98
Jul-00
Apr-02
Jan-04
Oct-05
Jul-07
Apr-09
Fixed investment, %. q-o-q
Private consumption, %, q-o-q
10
5
4
5
3
0
2
1
-5
0
-10
-1
-2
Jan-97
Oct-98
Jul-00
Apr-02
Jan-04
Oct-05
Jul-07
Apr-09
-15
Jan-97
Oct-98
Jul-00
Apr-02
Jan-04
Oct-05
Jul-07
Apr-09
Background for realism (2)
Unemployment, %, quartely
CPI, %, yoy
4.5
10
4
9.5
3.5
9
3
8.5
2.5
8
2
7.5
1.5
7
1
6.5
0.5
6
0
5.5
5
-0.5
Jan-97
Jul-98
Jan-00
Jul-01
Jan-03
Jul-04
Jan-06
Jul-07
Jan-09
Jul-10
Jan-97
Jan-00
Jul-01
Jan-03
Jul-04
Jan-06
Jul-07
Jan-09
Jul-10
Current Account, %GDP
Government balance, %GDP
1
Jul-98
1
0
0.5
-1
0
-2
-3
-0.5
-4
-1
-5
-1.5
-6
1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Exports collapse
%, yoy
20
6
%, yoy
Euroland exports (rhs)
Forecast
5
15
4
10
3
5
2
Global domestic
demand
0
Mar-95 Sep-96 Mar-98 Sep-99 Mar-01 Sep-02 Mar-04 Sep-05 Mar-07 Sep-08 Mar-10
1
0
-5
-1
-10
-2
-15
-3
Outlook for 2009 - data
selected countries
Germany
France
Italy
Spain
Netherlands
Ireland
Greece
Portugal
UK
Sweeden
Switzerland
2009
-5.6
-3.0
-4.4
-3.0
-4.8
-8.0
-0.2
-4.1
-4.1
-4.3
-3.0
2010
-1.0
0.4
-0.4
-0.7
-0.7
-3.0
-0.6
-0.5
-0.4
0.2
-0.3
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?
Jul-09
Jan-09
Jul-08
Jan-08
Jul-07
Jan-07
Jul-06
Jan-06
Jul-05
Jan-05
Jul-04
Jan-04
Jul-03
Jan-03
Jul-02
Jan-02
Jul-01
Jan-01
Jul-00
Jan-00
Jul-99
Jan-99
Credits: loans and securities
(bn Euro, net monthly flows)
140
120
100
80
60
40
20
0
-20
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
Central and Eastern Europe
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)
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.
1.
Crisis - two basic facts (2)
2. Macroeconomic destabilization
•
Lack of confidence, danger of “sudden stop” of
external financing  sustainability of (even shortterm) 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 socalled ”southern flank”) - reveal an extreme
worsening of basic macroeconomic forecasts
– However, risks covered by Eurozone
Basic forecasts 2009
HDP %
CZ
PL
SK
SI
H
RO
BG
EST
LAT
LTU
-3.5
-0.7
-2.1
-2.7
-3.3
-4.1
-2.0
-10.0
-12.0
-10.0
PubFinDef
%GDP
-3.0
-4.1
-2.8
-3.2
-2.9
-7.5
-0.5
-3.2
-6.3
-3.0
State debt
%GDP
29.4
47.7
30.0
24.8
73.8
21.1
12.2
6.1
30.4
20.0
CurrAcc
%GDP
-2.7
-4.5
-5.7
-4.0
-4.0
-9.0
-14.1
-5.7
-6.5
-7.0
Inflation
CPI, %
1.0
1.8
2.0
0.5
4.2
4.5
2.0
-0.5
-1.0
1.5
Unemplom.
%
8.2
11.0
11.5
6.2
9.1
6.1
7.4
11.8
10.3
15.7
Real GDP growth, %
0
-2
-4
-6
-8
-10
-12
-14
LTU
LAT
EST
BG
RO
H
P
I
E
GR
IRL
SI
SK
PL
CZ
UK
NL
F
D
Euro
forecast 2009
General Government Balance
0
-2
-4
-6
-8
-10
-12
-14
LTU
LAT
EST
BG
RO
H
P
I
E
GR
IRL
SI
SK
PL
CZ
UK
NL
F
D
Euro
% of GDP, forecast 2009
Government Debt, % of GDP
forecast 2009
120
100
80
60
40
20
LT
U
T
T
LA
ES
B
G
R
O
H
P
I
E
R
G
IR
L
I
S
K
S
L
P
C
Z
K
U
F
D
N
L
Eu
ro
0
Current Account, % of GDP
forecast 2009
4
2
0
-2
-4
-6
-8
-10
-12
-14
LTU
LAT
EST
BG
RO
H
P
I
E
GR
IRL
SI
SK
PL
CZ
UK
NL
F
D
Euro
-16
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 macroparameters
– „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
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CEE: Proportion of loans,
denominated on FX
100
90
80
70
60
50
40
30
20
10
0
CDS spreads
1000
900
800
700
600
500
400
300
200
100
0
10/25/05
4/25/06
Czech
10/25/06
Hungary
Poland
4/25/07
Slovakia
10/25/07
Estonia
4/25/08
Latvia
10/25/08
Lithuania
Sharp depreciation in CE
Jan 1
2000=
160
Chart 1: Depreciations in the CE3 have
been sharp
150
140
Depreciation
130
120
110
100
CZK (Real TWI)
HUF (Real TWI)
PLN (Real TWI)
90
80
00 00 01 01 02 02 03 03 04 04 05 05 06 06 07 07 08 08 09
Source: GS Global ECS Research
0
Source: GS Global ECS Research, Haver Analytics
Latvia
Estonia
Bulgaria
Hungary
Croatia
Kazakhstan
Slovakia
Lithuania
Serbia
Thailand
Ukraine
Poland
Indonesia
Romania
Czech Rep
Malaysia
Russia
S Korea
External debt, % of GDP
Asia 1996, CEE 2008
% of GDP
160
140
120
100
80
60
40
20
Current account, % of GDP
Asia 1996, CEE 2008
% of
GD
15
Current account
NBoP*
10
5
0
-5
-10
-15
Bulgaria
Latvia
Lithuania
Romania
Estonia
Thailand
Hungary
Slovakia
Ukraine
Poland
Malaysia
South Korea
Indonesia
Czech Rep
Slovenia
-30
Kazakhstan
-25
Europe (year to 3Q 08) and Asia (1996)
* Narrow Balance of Payments = CA + Net FDI
Source: Goldman Sachs, Haver Analytics, WB
Russia
-20
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
Thank you