The following inexhaustive list is a companion to last week’s post on things to watch in MENA and our recently published outlooks. In general our regional outlook, like our global one, has become brighter on the margins but emphasizes the divergence in growth across the region and across emerging and frontier markets. We’ll be treating all these themes and many more in the coming year.
A tough growth environment: Growth has slowed sharply across Emerging Europe, as highlighted in our recent outlook, and several export oriented countries slipped back into fiscal austerity, weak EZ demand and a persistent credit crunch chilled domestic demand. More domestically driven economies also slowed including Russia, Turkey and Poland. 2013 will be a bit better across the board, particularly if herculanean efforts of global central banks give local authorities more policy space. The region still underperforms other EM regions, as local fiscal austerity and credit sluggishness accentuate weak demand from the EZ.
Balance sheet repair continues: Regional economies are still rebuilding balance sheets from the boom years, to differing degrees. Generally balance sheets are more encumbered, particularly public sector ones, posing chronic if not necessarily acute challenges.
Prefunding debt burdens: Most regional players have been capitalizing on cheap financing costs to prefund liabilities – expect more of them to try to lock in capital and corporates and banks to follow. The move to localize liabilities is a positive step, reducing FX debt burden and the vulnerability to FX swings. However, the region is still highly reliant on external finance, particularly shorter-term portfolio capital, which leaves it vulnerable to a change in risk appetite. Attracting FDI will be trickier.
IMF on backburner?: Stronger risk appetite may encourage regional economies to play hardball with the IMF or defer a return to talks (most notably in Hungary, despite continued market unfriendly reforms). Romania, benefiting from its new USL-led coalition should be able to come to terms with the IMF, when its loan expires next year. perhaps with a precautionary line.
- Ukraine has less room for maneuver – steel demand will be scarce, despite China’s temporary bounce, its financing position precarious and the government unwilling to recognize the costs of its unfriendly investment environment.
Assessing the EZ future: As EZ (and EU) leaders continue to move forward with deeper integration, expect more public chatter on accession to the monetary union. Polish authorities have already stepped up rhetoric in recent weeks, exposing some differences within the government and between the government and population. We expect no large members to accede in the near or medium-term, but we’ll be watching for regional players moves to stay at the table in EZ discussions while maintaining the benefits from independent monetary policy.
A better harvest (hopefully): The region was hit by extreme hot weather and weak harvest in 2012, drawing down its agricultural reserves and hitting economic output in Romania, Hungary and Ukraine among others. 2013 should be a better year, but some of the weak harvests may be structural and new irrigation, agricultural practices and land reform (especially in CIS) could be needed to persistently raise yields.
Cheaper gas (for some): Although CEE (and especially south Eastern Europe) still lacks the flexibility of power sources in Western Europe, Eastern Europe is finally starting to benefit from the effects of the spot market in reducing gas prices. Poland recently won a reduction in gas prices from Gazprom after suffering some of Europe’s highest gas prices. Local shale gas production should be a slow-going trend given geological and political backlogs (we see the progress as particularly challenging in Ukraine given recent stall in energy and economic policy, including failure to strike an MOU with Exxon).
Sluggish privatization prospects: Despite a stronger debt environment, privatization may remain a hard sell as growth and domestic liquidity remains weak. We don’t see Russia in particular being willing to give up authority over key companies. We’re watching also Poland’s plans to lever up some of its state-owned assets to avoid breaching public debt requirements.
Continued deleveraging of Banks and households in EE and slower leveraging in CIS/Turkey: The ECB measures don’t end deleveraging, just soften them. A new Vienna initiative should limit any sharp withdrawals, but financiers will be making decisions accordingly on countries which have more space to grow leverage (Turkey among others).
Chinese role: Chinese capital is coming to the region, mostly to resource rich countries. Aside from Russia and Kazakhstan, Chinese capital is still relatively limited, but likely to grow in coming years. Regional producers may find themselves struggling to avoid the dumping from oversupply and Chinese investment, coming with its implementing, workers may create political issues. We don’t see Chinese funds as being sufficient to offset other bilateral and multilateral support (EIB, EBRD, IMF etc).
Some latent risks:
Political strains: There are risks of coalition splintering in a few countries (Czech Republic, Baltics) as well as loss of support in Russia. Sluggish economic growth and labor market slack could amplify political pressures in a push for market share.
Stagnation in structural reforms: 2012 brought long-awaited improvements in business environment – regional economies were some of the biggest improvers in 2012’s WB doing business (Poland etc) but business environment remains constrained – in a slower growing world capitalizing on trade links and corridors and fostering innovation will be key to attracting FDI needed to fuel investment in the absence of meaningful domestic savings.
Persistent corruption problems in South Eastern Europe , and CIS which limit absorption of structural funds (for EU members), government funds and also private capital.
Still high levels of unemployment – high single digits in most countries which raise political risks, and accentuate other strains on domestic demand. These developments could increase attractiveness of nationalist parties.
Risks of trade protectionism, particularly in CIS: So far the Russian led customs union has had only modest restrictive effects on trade by increasing tariffs to those outside the zone.