Manufacturing data reinforces Central European recovery; Russia, Turkey struggling

By bne IntelliNews September 3, 2013

Tim Gosling in Prague -

Reinforcing signs that Central Europe may be ready to finally mount a real recovery, data on the region's vital manufacturing sector for August showed continued expansion. However, the Eurozone crisis appears to be belatedly catching up with Central and Eastern Europe's largest economies.

Following the first solid return to expansion (above the 50-point threshold) across the board in July, Purchasing Manager Index (PMI) readings for Central Europe strengthened further in August.

"Overall, our weighted average Central European manufacturing PMI rose to 52.8 last month from 51.0 in July," notes Capital Economics. "This was its highest reading since July 2011 and, on past form, is consistent with regional industrial production growth accelerating to around 5% year on year, from 0.4% in [the second quarter]."

In Poland, the reading reached its highest level in 25 months at 52.6. Perhaps most importantly for an economy that was previously insulated from the crisis by domestic demand, sentiment improved even in the case of employment in the sector. Meanwhile, Hungary also returned to expansionary territory at 51.7, although the data from Budapest is seen as a less reliable indicator of actual industrial output and can be erratic.

In the Czech Republic - a country even more heavily exposed to exports into the Eurozone - manufacturing did even better, pushing up to 53.9. The country has now seen its PMI reading improving for four months straight following over a year of contraction, and it goes hand in hand with finally escaping its longest ever recession in the second quarter.

The numbers have analysts purring, and even has RBS stating that "the worst is over". More soberly, KBC insists that the data "support our view that cyclical recovery both in Poland and the Czech Republic is under way."

Unsurprisingly, the improvement in Central Europe appears mostly due to the strengthening of the Eurozone, and in particular the German, economy. The European powerhouse - which accounts for a massive chunk of the region's exports due to the supply chain for its industrial might - saw its own manufacturing PMI rose to a 25-month high of 51.8 in August.

However, analysts at Capital Economics point out that there is also evidence that the recovery is encouraging green shoots in consumption in Central Europe, which has been on its knees for years in some cases. "Domestic demand appears to be strengthening at the same time," they write. "In the Czech Republic and Poland, not only did the new export orders component rise, but the overall new orders component (including both domestic and external new orders) picked up too."

The improved likelihood of a longer-term recovery boosted sentiment on financial markets. Both the crown and the zloty drew support, with the Czech currency moving to EUR/CZK 25.69 in early trading, while the zloty strengthened up to EUR/PLN 4.25. The improved outlook is likely to see the National Bank of Poland hold rates at its meeting this week, while the Czech central bank continues to hold off on threatened intervention to weaken the crown.

Tables turned

The tables turned in July, when Turkey and Russia - the leading lights in CEE over the past year or two previously - saw their PMI readings drop into contraction territory. Ankara, facing ever greater pressure on its financial markets amid political unrest, will be relieved to see its manufacturing sector bounce back into expansion at 50.9, especially given that the data offers some respite for its trade balance.

"The hope now is that the survey data and in particular, the surge in the new export orders sub component, feeds through to the real economy," say RBS analysts, "with a pick-up in export growth required to halt the recent widening in the current account deficit."

At the same time, most analysts - including RBS - suggest Turkey is set to struggle. "It's worth noting," says Capital Economics, "that the PMI survey tends to take place in the middle of the month, while the worst of the falls in the Turkish financial markets happened towards the end of the month.

Moscow saw another month of contraction for the Russian manufacturing sector - albeit August saw the PMI reading recover slightly to 49.4 - to add to the country's rapidly receding macro figures so far in the second half of the year. Indeed, Russia's August PMI was at its lowest level since December 2009 - when the country was in the midst of turmoil after being belatedly caught up by the global financial crisis.

A similarly delayed crunch - although unlikely as acute thanks to a round of corporate debt restructuring in 2010 - produced by the Eurozone crisis appears to have now taken a firm hold. The continued slide in macro readings looks likely to finally kick off monetary easing.

"With headline inflation on a declining trend, and likely to descend into the CBR's target range of 5-6% by the end of September, we think that this provides room for the CBR to spring into action in September and cut the refinancing and overnight repo rates by 25bps," writes RBS. "We expect another round of 25bp cuts in October."

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