Eastern European growth weaker, but resilient

Most countries in emerging Europe have probably already digested most of the economic shock caused by the Ukraine war.

Despite the war in Ukraine, the economies of Central, Eastern and South East Europe are demonstrating their resilience, according to a new forecast from the Vienna Institute for International Economic Studies (wiiw), a think tank.

Although economic activity has slowed significantly, the economies of most countries in the region will continue to grow in 2023.

“While high inflation poses major problems for households and businesses, not for the first time we are seeing impressive resilience in the region,” says Richard Grieveson, deputy director of wiiw and lead author of the forecast.

“[Vladimir] Putin’s strategy of using energy as a weapon has failed, not least because the Eastern Europeans have also been able to significantly reduce their gas consumption.”

For 2023, wiiw forecasts growth averaging one per cent for the EU member states of the region. This will be 0.8 percentage points above growth in the euro area (0.2 per cent), which will practically stagnate.

The South East European EU members, in particular, are proving quite resilient, whereas in the Visegrád countries average growth will be only 0.6 per cent – and the Hungarian economy is expected to shrink this year by one per cent. Meanwhile the economies of the Western Balkans will expand by 1.8 per cent.

Even though growth will be significantly lower than last year in the vast majority of cases, a full-year recession will be largely avoided, except in Hungary – and Russia, whose economy will continue to decline this year (GDP falling three per cent), following the 2.5 per cent contraction in 2022.

Generally speaking, most countries of the region have probably already digested most of the economic shock caused by the Ukraine war – at least assuming that Russia does not escalate the conflict further.

“Provided that does not happen, growth in Eastern Europe should pick up again from the second half of the year,” says Grieveson. “But the biggest factor of uncertainty remains the war in Ukraine.”

Inflation in the region has largely passed its peak but will remain high. Central banks in the region could thus again loosen monetary policy somewhat, with positive effects for growth.

For Ukraine, missile terror dampens hopes of recovery

After a 30 per cent slump in GDP last year, war-torn Ukraine should recover somewhat this year, its economy climbing by three per cent. In view of the enormous destruction and the economic bloodletting, this would only be a small step forward. Moreover, this forecast includes great uncertainties and depends, above all, on the future course of the war.

Russia’s bombing campaign against the country has already destroyed large parts of the critical infrastructure and is continuing. The resulting power cuts are increasing the costs of production and had a massive impact on economic activity in the fourth quarter of 2022, owing to lost production.

The country’s financing needs are expected to increase further. The Vienna Institute expects a budget deficit of 20 per cent of GDP for this year, the financing of which will rely heavily on financial support from the West.

Russia: Oil sanctions are working

Although the economic slump in Russia was limited last year (-2.5 per cent) – and was lower than the -3.5 per cent forecast in the autumn – the downturn gained momentum in the fourth quarter of 2022.

In 2023, GDP is expected to decline by three per cent. Besides the partial mobilisation and the shortfalls in gas exports to Europe, the new oil sanctions imposed by the West are primarily responsible for this.

The EU oil embargo and the price cap on Russian oil have meant that Russia now has to sell its oil at a huge discount. In the first four weeks after the measures came into force, the price of Urals – Russia’s most important crude oil grade – plummeted to 47 US dollars per barrel. Compared to North Sea Brent, this represented a discount of 43 per cent. This significantly reduces tax revenues, 40 per cent of which comes from the energy sector, where export duties on oil play a major role.

“The sanctions put in place on December 5 are the most effective imposed so far,” says Vasily Astrov, Russia expert at wiiw. Still, Astrov believes they will have little impact on Putin’s ability to finance the war for now, as the gap will be financed through higher budget deficits. “Deficits of three to four per cent of GDP would still be bearable,” he says.

The higher defence spending is also limiting the recession. Indicators such as retail sales therefore appear more meaningful for the country’s development than GDP figures, and these have fallen by eight-
10 per cent since the beginning of the war.

In addition, the Western export ban on high technology is having an enormous impact on Russia’s already weak growth prospects in the longer term.

Inflation has passed its peak

In 2022, most countries of the region recorded their highest inflation rates for 15 years – or in some cases since the 1990s.

However, in the wake of falling energy prices and monetary tightening by central banks, inflation is likely to have peaked.

In all 23 countries surveyed by the Vienna Institute (with the exception of Hungary), it should decline again in 2023.

However, there are upside risks, especially from stronger demand for commodities as the Chinese economy reopens.

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