COMMENT: High growth in CEE to continue but risks of overheating on horizon

By bne IntelliNews July 6, 2007

Vienna Institute for International Economic Studies -

The first three years of EU membership were a clear economic success. Over the period 2004-2006 GDP in the new member states (NMS) increased by 5.3% on annual average, 2.2 percentage points faster than in the previous three years. The NMS substantially increased their lead in terms of growth over the EU-15 and their catching-up process accelerated.

The difference between pre- and post-accession periods was even more spectacular when looking at investments. Export growth rates nearly doubled after EU accession and NMS trade balances have improved. Stronger economic growth reduced unemployment and fostered employment. However, macroeconomic stability indicators – inflation, current account status and fiscal balances – reveal a less favourable picture than those related to developments of the real economy, possibly reflecting lesser enthusiasm regarding EMU accession.

In 2008, high GDP growth will continue in the NMS, except for Hungary. Nevertheless, in all but two countries (the Czech Republic and Hungary) growth rates are predicted to be somewhat lower than, or equal as, in the current year, because of constraints on further acceleration of the current rapid pace of growth. Supply-side constraints on further expansion will be felt especially because of a tight labour market. There are risks of overheating in Bulgaria, Romania and the Baltic States. Only in Slovakia does very high growth seem to be sustainable, at least over the next two years. Pressures arising from an increasingly tight labour market will be counterbalanced by further currency appreciation and the inflation will remain relatively low. Export growth will be high, reflecting a favourable international environment, growing import demand of the main trading partners and continuing competitiveness of the NMS.

Future bright for future members

Economic developments in the future member states (FMS) of the EU – the candidate and potential candidate countries of the Balkans – continue to surprise positively. All countries report respectable GDP growth, and the growth looks sustainable. Though external and internal imbalances, i.e. in the labour markets, are still quite large, price stability does not seem threatened. Even in Turkey and Serbia, where exchange rates and prices are more volatile, the risks of serious crises are rather low.

In addition to macroeconomic stability, the underlying political stability seems to have improved as well. Though no breakthrough has been achieved in longstanding political problems, the progress in democratization is bringing security and political risks down. The prospects of EU integration have improved during the German EU presidency and will add to the positive economic outlook. GDP growth should stay between 5% and 6% per year, investments and exports will grow even faster and macroeconomic stability should be sustained in the medium run.

Russian economic growth has accelerated in 2007, driven by booming private consumption and investment. Increased expenditures on state-sponsored programmes and industrial policy measures focusing on public-private partnership projects should foster restructuring and innovation. We forecast ongoing reliance on energy revenues and an average annual GDP growth of more than 5% in the coming years.

In Ukraine, strong consumer demand, vigorous investment activity and solid exports have all contributed to impressive GDP growth in 2007. Rising consumption and housing construction are increasingly driven by expanding consumer credit. Imports growing faster than exports will translate into a further current account deterioration. For the year 2008 we expect an economic growth of around 6%.

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