CEE facing the challenges of a new global environment

UniCredit view on the growth prospects of the region remains rather positive. The main contagion channel from the international crisis is expected to be related to a potential credit squeeze.

Central European countries are those likely to remain little affected. Some more risks of credit squeeze in South Eastern Europe, in the Baltics and in the Broader Europe countries is forecasted.

The positive outlook is confirmed at the sector level, with medium high technological branches and construction remaining among the best performers

CEE countries face the challenges arising from the US sub prime crisis

The US sub-prime crisis has changed the global operating environment, leaving a world characterised by higher uncertainty, lower growth in the US (and maybe also a recession) and in the Eurozone, lower liquidity and higher cost of risk.

The CEE region is in a good position to withstand the new challenges, a new study from UniCredit New Europe Research Network affirms. Sound growth has been achieved in the last years mainly thanks to a strong dynamic in households´ income and wealth, while companies' profitability in the region is high and infrastructural projects add to investment demand. The banking sector has also played a strong role in supporting growth, with financial penetration, measured as loans over GDP, increasing from 23% in 2000 to 43% in 2007.

"Unbalances are however present and they might become a transmission channel for the international liquidity crisis into the region" says Debora Revoltella, the CEE Chief Economist of UniCredit Group and Bank Austria Creditanstalt. As part of the transition process, some countries were indeed relying on external savings to finance domestic growth. Strong consumption and investment demand brought to fast rising current account deficits, and to a general national saving gap, which has been financed via foreign direct investment, but also via increasing external debt. "In the context of an international repricing of risk, reliance on external savings might lead to some moderate credit squeeze, as the costs of financing for the local economies increase", Debora Revoltella added. According to UniCredit experts, Central Europe is likely to be largely unaffected by a potential credit squeeze. For Poland, Slovakia, the Czech Republic, Hungary and Slovenia, the main challenges in the years to come are rather related to preserving competitiveness, despite bottlenecks in production capacity.

South Eastern Europe and the Baltics might face some credit squeeze. Given the strong growth of the last years and overheating concerns, this works in line with Central Banks aspirations and can even be beneficial to correct existing unbalances. Broader Europe countries are also sensitive to international repricing of risk. A liquidity crunch is possible to come up in Kazakhstan. Some funding problems might emerge in both Russia and Ukraine. "We believe however resources and commitment should be enough to preserve long term potential of the economy in Kazakhstan and to prevent any major setback even in the short to medium term in the other two countries", adds Revoltella. While remaining sensitive to capital market volatility, Turkey is relatively less likely to face a bank related credit squeeze.

On the overall, the CEE region continues to perform well, even if the pick of the growth cycle is passed. UniCredit forecasts growth at 5.9% and 5.6% in 2008 and 2009, versus an estimated 6.6% in 2007. The new international environment poses additional challenges, but might also favour a smooth correction of existing unbalances, which in some countries should be taken as a positive signal", adds Revoltella.

Positive outlook confirmed at the sector level

"The CEE region is becoming the manufacturing production arm of Europe and a slowdown of growth at the world and European level might even enhance the process", says Debora Revoltella. "International companies active in the region might try to preserve their profitability by maximising the benefits of having delocalised in the region - thus transferring some more activities towards the CEE production sites".

Economists see a bunch of medium-high tech manufacturing sectors related to the production of investment and intermediate goods as clear winners for 2008-09. "These are the sectors characterised by higher productivity, higher export orientation and higher FDI intensity", so Debora Revoltella. Construction and real estate are also considered as winning branches in most of the CEE countries and UniCredit Group experts believe that positive prospects will stay, despite the risk of credit squeeze, as local markets are mostly influenced by domestic features and in the region a structural gap in terms of supply is still visible in most of the segments. UniCredit experts warn however that despite a general positive view on the sector, it is time to be relatively more selective among potential projects.