Expansionary fiscal policy and trade measures should be used to offset the effects of weak investment and political uncertainty, to help the global economy out of the “low-growth trap” in which it is snared, the Organisation for Economic Cooperation and Development (OECD) says in its latest Economic Outlook, published on November 28.

The call to free trade and boost investment will be welcome in the small, open economies of Central Europe and the Baltic region. However, with nationalist and populist politics on the rise around the globe, including in CEE, it’s likely that domestic fiscal spending will be left to carry much of the weight.

“Fiscal initiatives could catalyse private economic activity and push the global economy to the modestly higher growth rate of around 3.5% by 2018,” the OECD analysts write. However, they also warn: “The key is to deploy the right kind of fiscal initiatives that support demand in the short run and supply in the long run and address not just growth challenges but also inequality concerns. These include soft investments in education and R&D along with hard investment in public infrastructures.”

The emphasis on spending on efforts with longer term payoffs are particularly crucial in CEE, where innovation and productivity are low. However, the current populist mood in the region will weigh against that likelihood even more than usual.

“The global economy has the prospect of modestly higher growth, after five years of disappointingly weak outcomes,” OECD Secretary-General Angel Gurría said.  “In light of the current context of low interest rates, policymakers have a unique window of opportunity to make more active use of fiscal levers to boost growth and reduce inequality without compromising debt levels. We urge them to do so.”

The Czech Republic currently boasts the most advanced economy in Central Europe. The country has also followed a line of fiscal prudence even as the economy boomed last year, and that hands it the potential firepower to invest to offer “support to enhance growth,” the OECD notes.

“Boosting investment should be a priority, and can take advantage of EU funds,” the report states. Investment was cut sharply in 2016 due to the transition in EU funding programmes, but is projected to rebound in 2017.

Following last year’s impressive GDP growth of 4.5%, the OECD predicts the economy will slow to 2.4% this year. The outlook for the country forecasts stable economic growth for 2017 and 2018 at 2.5% and 2.6% respectively.

Still, like the rest of the region, labour is becoming scarce, with unemployment set to continue to push towards its lowest rate in the last two decades, which will accelerate wage growth. While remaining a risk longer term, that will support consumption. Rising cost pressures will push consumer price inflation to the 2% target during 2017, the OECD predicts, allowing the central bank to drop the cap it placed on the koruna in 2013.

However, as in the rest of the region, the key risks are external. Slower growth in world trade would lower exports through value chains, the OECD worries. The report calls for structural policies to be deployed - to improve EU fund absorption, the fiscal framework, access to the workplace and access to financing - to sustain the economy’s expansion.

The OECD raised its 2016 growth estimate for Hungary to 1.7% from 1.6% previously, but has dropped its forecast for next year from 3.1% to 2.5%. 

The slower growth in 2016 was due to a reduction in public investment in infrastructure arising from the slower disbursement of EU funds at the beginning of the new funding cycle. Growth is expected to pick up next year as new EU-funded infrastructure projects are launched.

Private consumption should remain the main driver of economic growth on the back of a continued rise in real incomes, supported by lower personal income tax and VAT on selected goods, the report states. Export growth, however, is projected to fall as competitiveness will continue to be eroded by higher wage costs and slow productivity growth. Weak exports are expected to contribute to a narrowing of the large current account surplus.

An expansionary fiscal stance for 2017 has already long been announced by a Hungarian government preparing for elections early the following year. Public wages, investment and housing subsidies will be increased as Budapest seeks to jolt the economy back into life.

The OECD suggests Hungary should rework its controversial public works programmes in the face of the labour shortage haunting the economy. “In particular, scaling back public works schemes as the labour market continues to strengthen, and bolstering public infrastructure investment (beyond what is financed by EU structural funds), particularly in transport, would boost productivity,” the OECD writes.

Poland’s growth in 2016 has been revised down to 2.6% by the OECD, largely due to the sharp lull in investment. As well as the public sector, private investment is also depressed, the report notes despite easy credit conditions, rising profits and high capacity utilisation.

Growth is projected to accelerate to 3.2% in 2017 after the country finally manages to improve disbursement of EU funding, while consumption remains elevated thanks to growing wages and social transfers and interest rates remain at their current low. The OECD also predicts growth at 3.1% in 2018.

CPI is expected to come in at -0.8% in 2016, before prices begin climbing up to 1.1% in 2017 and 1.7% in 2018. As inflation picks up, the central bank is projected to start increasing rates towards the end of next year.

Unemployment is expected to continue falling and reach 6.1% in 2016 before compressing further to 5.4% and 5.3% in 2017 and 2018, respectively. General government debt is projected at 67.5% of GDP in 2016, before it grows to 68.8% in 2017 and then further to 69.9% in 2018. The current account deficit will hold quite steady to -0.6% of GDP in 2016 and -0.5% of GDP in 2017 and 2018.

In terms of risks, a stronger-than-expected impact of Brexit and a slowdown in emerging market economies, notably China, would hit exports, the OECD claims. Domestic risks include plans to force compensation of foreign-currency denominated mortgage holders for the high costs charged by banks prior to 2011, which could reduce banks’ capital positions and credit to the real economy. Another risk is rising uncertainty about fiscal and structural policies that could negatively affect business confidence and investment.

Slovakia has suffered less than many in the region in seeing private investment dwindle this year, as FDI linked to the auto sector has continued to flow, much connected to the construction of a €1.4bn plant by Jaguar Land Rover. The OECD exects the sector to stay the course. “Exports will continue to benefit from the expansion in the automotive sector, which is ramping up production,” the report notes.

On top of that, improvements in tax collection, public-sector efficiency and government spending should offer the space for Bratislava to turn its attention to the issues facing the country, the analysts assert. An ageing population presents a serious medium-term challenge, and Slovakia has the “fiscal space to finance extra growth-enhancing measures in areas such as education and R&D”.

The OECD forecasts that continued export growth will push the Slovak economy to expansion of 3.6% this year, which is not a significant drop from the 3.8% recorded in 2015, even though like its regional peers, Slovakia has seen EU funded projects dry up.  A pullback to 3.4% is likely next year, before a rebound to 3.8% in 2018.

Of the Baltic states, Latvia is projected by the OECD to grow the fastest over the forecast period. While growth in 2016 is likely to come in at a disappointing 1.1% - compared to similarly poor expansion in Estonia and only slightly better growth in Lithuania at 2.1% - Latvia will move ahead of the neighbours in 2017 and 2018.

The Latvian growth is forecast to reach 3% in 2017 and 3.5% in 2018. Lithuania will see its GDP expand at 2.7% and 2.8% over the next two years, while Estonia will end 2017 at 2.4% and 2.9% in 2018, the OECD predicts.

Inflation is projected to rise across the three Baltic states to over 2% in Lithuania and Estonia in 2017 and 2018, and slightly below 2% in Latvia. Unemployment in Latvia is set to stay at around 9%, while Lithuania will manage to reduce the joblessness rate to 7.5% and 6.9% in 2017 and 2018, respectively. Following the layout of market reform, Estonia will be the only country to see unemployment grow - from 7.6% in 2016 to 8% in 2018.

As has been the case for years, Estonia will stand out for its fiscal indicators, with debt at around 10%, compared to around 40% in Latvia and Lithuania. Estonia’s deficit will also be the smallest, while the country will also manage a surplus on the current account.