Emerging Europe: Hard data raises hope of soft landing


Guy Norton
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In the run-up to the annual general meeting of the European Bank for Reconstruction and Development in Kiev there were encouraging indications that dire predictions about the economic demise of the countries of central and eastern Europe are looking increasingly wide of the mark.

That’s certainly the view of Marion Muehlberger, emerging market economist at Deutsche Bank in Frankfurt. In a recent research report, Eastern Europe: Tentative signs of a soft landing, she argues that a growing number of economic indicators point towards a managed slowdown in emerging Europe rather than a recession.

Although conceding that there are still risks of states in the region falling into the so-called Portuguese trap – whereby after years of rapid economic convergence with high credit, wage and income growth Portugal entered a long period of economic stagnation in 2001 from which it has yet to emerge – these are generally receding.

This is especially true in the Baltic states and Kazakhstan, where concerns about unsustainable growth levels had been highest. In all four countries, recent data releases show that credit, consumption and economic growth have slowed substantially.

Real private sector credit growth

Source: Deutsche Bank

"While those are all positive signs, the countries are clearly not out of the woods yet. In order to be sure that a soft landing is actually taking place, slower domestic demand has yet to feed through to the current account, inflation, wages and external debt dynamics," says Muehlberger.

On the other hand, she cautions that there are still concerns about possible overheating in Bulgaria, Romania and Ukraine where despite measures to limit credit growth, lending expanded by an average of more than 48% in the year to December 2007. "Assuming adequate government and parent-bank policies, a soft landing remains our baseline scenario," she says. But she adds the rider that the authorities in Bulgaria, Romania and Ukraine will need to heed the call by the IMF for them to tighten fiscal policy, increase wage flexibility and make sure that their banking sectors are adequately prepared for an economic slowdown. "While we see some of these proposed measures being implemented, governments have to show more efforts in effectively engineering a soft landing."

The Deutsche Bank report notes that lending volumes rose across the entire region over the course of 2007. But with the exception of Latvia and Croatia, the financial depths of the central and eastern European banking systems, as measured by credit-to-GDP ratios, remain far below its equilibrium model.