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Euro zone crisis to hit emerging Europe

ZAGREB - Fiscal cuts in western Europe prompted by the euro zone deficit crisis will hit demand for exports from central and Eastern Europe and undermine the emerging region’s recovery, the EBRD said on Friday.

The European Bank for Reconstruction and Development said the impact of western Europe’s fiscal woes would show in its new growth forecasts for the CEE region, the market in which the crisis hit was worst and most drawn-out.

Concerns that euro zone austerity may weigh on growth have also affected monetary policy, with the Czech National Bank saying the belt-tightening had contributed to a surprise rate cut last week.

The EBRD urged countries in the former Communist bloc to act now to avoid a return of the imbalances that made the crisis worse and more drawn-out than in any other emerging market: an overreliance on external funding and unsustainable credit booms.

“Measures in western Europe that drag down demand — fiscal restraints for example — will have an impact on central and eastern Europe as they depend so much on exports to the euro zone,” EBRD Chief Economist Erik Berglof told Reuters Insider television at the sidelines of the bank’s annual meeting.

“We were a bit more optimistic before but the outside risks are clearly what we are worrying about now.”

In January, the London-based development bank said the region would grow 3.3 percent on average in 2010.

Countries from the Baltics to the Black Sea are trying to recover ground after a downturn that saw Latvia’s economy contract 18 percent and others shrink in the high single digits.

Although Poland, the Czech Republic, and several other countries are expected to show growth this year, low demand from the euro zone — the main trading partner — is expected to prolong pain for countries expected to shrink such as Hungary and Romania.

“Emerging market regions are recovering at different speeds, and the EBRD region is lagging behind most others,” EBRD President Thomas Mirow told the bank’s Governors in Zagreb.

Avoid imbalances

The EBRD, set up at the end of the Cold War to help former communist economies adjust to free markets, said they needed to work now to avoid future crises hitting as severely.

“We must prevent a return of the macroeconomic and financial imbalances that explain the severe impact the crisis had on our region and why it is now taking longer to recover,” Mirow said.

“This means ... to avoid excessive current account deficits and unsustainable credit booms.”

A main driver of imbalances has been foreign currency borrowing among consumers in euro zone candidates who had bet their forints, zlotys and other currencies would gradually appreciate before they swapped them for the single currency.

But Hungarian central bank Vice Governor Julia Kiraly said that model had proven risky and a change was in order.

“We should change our growth model,” she said. “We should rely mainly on internal savings. The main lesson is, don’t borrow heavily from international capital markets.”

Euro bonds

Despite the euro zone’s current woes, the common currency has not lost its attractiveness for Croatia, which hopes to join the European Union in 2012, and the euro sometime later.

“The fundamental reasons for Croatia to join the euro zone as soon as possible are still there,” central bank deputy governor Boris Vujcic said. “The costs for joining the euro zone are very small and benefits definitely prevail.”

Somewhat calmer markets also encouraged Kazakhstan and Montenegro to dip their toes back into the eurobond market, a sign that emerging economy policymakers believe the immediate threat of contagion from the euro zone crisis is easing.

Kazakhstan’s finance minister Bolat Zhamishev said his country was planning to raise at least $500-750 million via a Eurobond in the second half of the year, the first in a decade for the resource-rich Central Asian country.

“We are not planning to issue a large Eurobond. The minimum volume that we’re focusing on is $500-750 million,” he said.

Despite the fears of contagion, Serbia’s finance minister said growth could double next year to 4 to 5 percent after a lacklustre 2010 and Macedonia’s said there would be moderate growth of 2 percent this year after a 0.7 decline in 2009.

Montenegro’s finance minister also said his country expected to return to mild growth this year and still planned to issue a eurobond worth up to 200 million euros but was carefully watching the situation in the light of the Greek debt crisis.