Tim Gosling in Prague -

The improved sentiment toward CEE markets in the first quarter of the year on the back of expectations for better economic growth was little more than wishful thinking, with GDP data for the period released on May 15 showing the contraction in the Czech economy continued, Romania joining it in recession, while Hungary is on the way also. The only bright spot was Slovakia, which pushed against the tide to continue its robust performance so far this year.

Following the depths of fear and despair seen in the final quarter of 2011, as industrial production figures fell off a cliff, the first three months of this year exhibited a far sunnier disposition. With Germany - the driver of much of CEE via its demand for the region's exports - putting in relatively robust performance, hope was sparked for much of CEE.

However, the data illustrates that as they sail into the mounting Eurozone storm, most CEE economies never actually managed to stabilize, let alone resume growth over the last three months, and fell short of consensus expectations. The numbers ignore Germany's relatively healthy growth of 0.5% through the period, leaving Slovakia as the single country apparently capable of taking advantage.

"There's no getting away from the fact that today's data paint a pretty downbeat picture," says Neil Shearing at Capital Economics. "This is perhaps surprising for two reasons. First, the survey data from quarter one - in particular the EC Economic Sentiment Indicators (ESI) - suggested that activity had stabilised in the first three months of this year. Second, data also released this morning showed that the German economy... performed surprisingly well."

The Czech Republic was already in technical recession after recording contractions in the previous two quarters, but a drop of a full 1% quarter on quarter reinforces that position. The number was particularly disappointing given that analysts had anticipated the economy would return to growth with a 0.1% expansion. The Czech Statistics Office attributed the surprisingly big drop to one-off effects from January's indirect tax hikes, which pushed some activity into the end of 2011.

Analysts at Komercni Banka worry that the Czech economy is now set to finish the year firmly in the red, even should it stage a recovery in the second quarter - which is the period that most suggest will mark the bottom of the crisis. "If the final reading confirms the 1% quarter on quarter drop in GDP, and if we assume that much of the decline will be recovered during second quarter, then we would expect the Czech economy to decline by 0.4% on average over the full year."

As Shearing points out however, "at the very least, [the data]... suggests that Emerging Europe is already feeling the effects of the apparent downturn in Germany since the start of quarter two."

Hungary underperformed expectations of a 0.5% contraction by an even wider margin, with economic growth at -1.3% quarter on quarter. Meanwhile, growth for the final quarter of 2011 was revised down to 0.0%.

The country's statistical office said that industry seems to have come to a halt in the first three months of the year, "which cannot be seen as reassuring, taking the better than expected German figures into consideration," worry analysts at Erste.

"As for the growth prospects, today's reading did not change our predictions for... the real economy to contract by 0.5% in 2012. As for the second quarter, the start of the Mercedes plant may help the figure, but [will] be insufficient to push the yearly index into the positive territory in the second quarter. In [the second half of the year], we hope that the euro area will show some revival, and this will affect the Hungarian growth figures positively, given the big share in exports."

Meanwhile, Romania joined the recession club as it saw its economy contract by 0.1% on the quarter after after a 0.2% decrease in October-December, seriously undershooting consensus expectations, although on a yearly basis it recorded 0.3% growth. Bulgaria just managed to keep its head above water with output flat on the quarter.

Slovakia, reflecting boisterous indicators through the start of the year however, including industrial production growth of over 12%, followed up its impressive quarterly growth of 0.9% in the final three months of 2011 - the highest in the EU - with a 0.8% expansion. "Industry increased, according to our calculations, by 4%, adding more than 1pp to the quarterly growth rate," Erste says.

"[The] Slovak case is special," the analysts add, "as there was continuing build-up of production at new car lines in the first quarter. In addition to higher demand from Asian markets, this helped the industry on the upward path." Erste joins a line of analysts on watch to join the European Commission in raising their full year forecast. Brussels raised its outlook from 1.1% to 1.8% on May 11.

However, aside from the German numbers, Slovakia remains the sole bright spot within the region. "The key point," insists Shearing, "is that much of the region was struggling to grow even before the latest escalation of the euro-crisis. Of course, much now depends on how the crisis itself pans out ... Any hopes that the region will remain immune to the problems in the single currency bloc have surely been extinguished by recent events."

He also predicts that the numbers will only provoke further conflict in the debate between growth and austerity across the region. "But in truth," he suggests, "while there may be scope for some countries (notably the Czech Republic) to ease the pace of fiscal consolidation, there is not much room for either fiscal or monetary policy stimulus."