Eastern European Forecast

An RGE's analysis of the Eastern Europe does not leave a lot of reason for enthusiasm about the region's future.
Almost all countries will report economic contraction in 2009. The recently high-flying Baltic countries will even post double-digit contraction this year.
The main reasons for region's ill faith are collapsing exports and drying-up of capital inflow. Main destination for exports from Eastern European countries was the EU market, which is now in recession. Exports also contributed up to 80-90% of the GDP in some countries. Capital inflow contributed to region's growth over the previous years.

According to the Institute of International Finance, net private capital flows to Emerging Europe are projected to fall from an estimated $254 billion in 2008 to $30 billion in 2009. Whether or not this is formally considered a ‘sudden stop’ of capital, it will necessitate a very painful adjustment process.

Also, days of easy credit flows were accompanied by rising external imbalances in trade. In Romania, Bulgaria and the Baltics this reached double-digit values. So the forecast for the region is a crisis similar to late 1990s crisis in Asia. The danger for the rest of the world is that this crisis could spill outward into other regions. High involvement of the Western European banks in the region makes it possible for the spread of contagion outwards.
Eastern European banks, at the same time, can expect a high percentage of non-performing loans, considering the high amount of foreign-currency loans issued and the weakening local currencies. And, as all the banks are now linked by their external parents/owners, the whole region's stability depends on their weakest members.
To combat these conditions, government institutions have pretty limited options available. Many other, besides Latvia and Hungary, will probably require IMF help in the process. Last week, EU leaders called for doubling of IMF resources to $500 billion.

Apart from this, it is worth noting that the situation in EU, from which the help is expected in containing the crisis. Russia is the second largest borrower from the EU banks. Russia also has a $100 billion debt that requires financing this year. EU banks also have an EUR 30 billion exposure to Ukraine which, in turn, has a $46 billion in foreign debt due this year. At the same time, devaluation of the local currency undermines repayments of this debt.

What is scary are the potential political consequences of these conditions. Quote:
The series of riots that erupted in Bulgaria, Lithuania and Latvia in January, followed by Latvia’s government collapse last week, raise concerns that Eastern European countries may experience a period of deep destabilization and social strife as the economic crisis deepens and unemployment rates soar. The recent wave of popular unrest was not isolated to Eastern Europe. Ireland, Iceland, France, the UK and Greece also experienced street protests, but many Eastern European governments seem more vulnerable as they have limited policy options to address the crisis and little or no room for fiscal stimulus due to budgetary or financing constrains. Deeply unpopular austerity measures including slashed public wages, tax hikes and curbs on social spending will keep fanning public discontent in the Baltic states, Hungary and Romania. Dissatisfaction linked to the economic woes will be amplified in the countries where governments have been weakened by high-profile corruption and fraud scandals (Latvia, Lithuania, Hungary, Romania and Bulgaria). The political forces most likely to benefit from public disaffection are those running on the populist platforms, which could disrupt efforts to battle the effects of the economic crisis. Latvia could be a case in point, as there are growing concerns that the coming election campaign might suspend the fiscal austerity measures required by the IMF bail-out package. Two other political hotspots that are at risk of early elections are Romania and Estonia, while Bulgarian national elections are due in mid-2009.

If the above materializes and nationalist parties win the public sentiment, this could put a halt on reforms being conducted in the whole region. Some are questioning the EU integration needs. Eastern European economies might also be hit by some protectionist measures undertaken by Western European economies. Unemployment in Western Europe will also turn the tide in worker migration. This will result in many workers moving back to their home countries while the inflow of funds sent home also dries up, adding to the pressure of social discontent there.

This will definitely be an interesting year to follow through.