Eastern Europe Still Lagging Behind Economic Recovery

The IMF's regional report this week noted that the recoveries in India, China and Australia are proceeding at such a pace that the output gaps are beginning to close.

As we have often highlighted, central and Eastern Europe are significant laggards. Russia's central bank was underscored this Thursday when it cut its key refinance rate 50 bp to 9.5%. It is the eighth rate cut since late April. Whereas officials in some Asian countries want to tighten lending activity, Russia seeks to boost lending activity, after its economy Russia's contracted 10.9% in Q2. The government forecasts a 6.8% contraction in H2 09, and Russia is the only BRIC still cutting rates. Inflation remains stubbornly high, though easing. The CPI year-over-year pace peaked in the middle of last year near 15%, but was still near 14% in Q2. It stood at 10.7% in September and the October reading is due out next week amid expectations of a 10.2% rate.

Turning away from Russia, Hungary is seen as the next big candidate in the region to cut interest rates. The key two-week deposit rate stands at 7% and the central bank meets against on November 23 and December 21. The market looks for a 50 bp rate cut before year-end, though we recognize the risk in the direction of more aggressive action rather than less.

Separately, in a report issued Thursday warning that widening public deficits and debt levels are undermining the outlook for the region, the IMF now expects the region to contract 6.1% compared to a 4.6% decline anticipated in a report 4 months ago. A more supportive global environment, Fitch says, will help lift growth next year to 2.6% from its prior forecast of 1.5%. However, the budget deficits are expected average 4.6% of GDP (down from 5.9% this year). This means that deficits will expand faster than the economy, meaning that government debt ratios will continue to rise. Fitch estimates that the average debt to GDP will rise to 36% by the end of next year from 23% at the end of 2007.

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Comments

[Kristjan Ve...:]

At the same time that China and Australia are picking up speed, Eastern Europe is in a dark hole. Real estate troubles are now a secondary problem as fiscal problems are turning into a nightmare. This is especially the case in Latvia, which is under the watchful eye of the IMF. The IMF's outlook for Latvia certainly isn't something to cheer about (www.kristjanvelbri.com...) and it doesn't look like things are getting better any time soon. The Q3 results for Swedbank (a Swedish bank that has a large stake in the Latvian banking sector) for Latvia were horrible - loan defaults picked up considerable speed while neighboring Estonia and Lithuania remained in a relatively stable downtrend.

Nov 02 05:04 PM