Central & Eastern Europe Economic Outlook February 2017

Growth slows to three year low in 2016

Central & Eastern Europe: Growth slows to three-year low in 2016

February 8, 2017

Economic activity firms up in Q4

A complete set of data for the countries of Central and Eastern Europe (CEE) confirms that activity picked up in the final quarter of last year after a sharp deceleration in Q3. GDP expanded 2.8% annually in Q4, a notch above last month’s preliminary estimate of 2.7% and an acceleration from Q3’s 2.6% growth. The better performance was driven largely by an acceleration in Poland—the region’s largest economy—as well as faster growth in Romania. A tight labor market and fiscal stimulus measures are fueling a consumption boom in Poland and household spending came in at a multi-year in Q4.  

Met the why particular’ panel of analysts sees economic activity firming at the start of 2017 and GDP growth is seen edging up to 3.0% in the first quarter. The EU-led investment fund cycle will become more favorable this year, after causing a sharp drop in investment in the region in 2016. Moreover, tight labor markets and easy monetary policies are supporting momentum across the region. That said, political obstacles still have the ability to upset confidence and threaten the region’s growth trajectory. Poland’s government continues to clash with EU officials over a number of measures and is now seeking to remove European Council President Donald Tusk from the top political job. Meanwhile, in Romania, political tensions remain high after a series of anti-corruption forecasts.

Solid domestic fundamentals fuel growth upgrade 

Robust data from the domestic economy helped fuel an upgrade to the region’s growth prospects this month. After growth of 2.9% last year, the CEE economy is expected to grow 3.1% this year, which is up 0.1 percentage points from last month’s forecast. A rebound in investment and still-strong private consumption are behind the healthy growth forecast. Next year, the economy is seen remaining on healthy footing and recording another 3.1% increase.

6 of the 11 economies saw upward revision this month, driving the region’s growth upgrade. Poland’s outlook improved amid healthy incoming data and fiscal stimulus measures are supporting prospects in Romania. All the remaining economies’ growth projections were unchanged, including forecasts for Czech Republic and Hungary.

Romania is projected to be the region’s fastest-growing economy this year, with an expected expansion of 3.8%. Bulgaria, Poland and Slovakia are also seen achieving fast growth rates of 3.1% each. On the other side of the spectrum, Estonia is expected to be the CEE region’s laggard, with an expansions of 2.3%. 

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CZECH REPUBLIC | Incoming data begins to point up

The Czech Republic has started the year on a strong footing, likely shrugging off the economic weakness which marked the last two quarters of 2016. Manufacturing has surged since the start of the year, with the PMI increasing in both January and February to reach a multi-year high as firms benefited from higher output and new orders. Moreover, after hitting a multi-year high in January, consumer confidence remained firmly in expansionary territory the following month, despite declining slightly, probably reflecting sustained wage growth. Good news also came from the labor market as employment grew and unemployment decreased in January, reflecting the positive momentum in the economy. The good start to the year came after disappointing growth in Q4. This brought full year growth to 2.3%, the lowest reading in three years. Lower growth was likely driven by a drop in fixed investment as EU investment funds dried up.

The economy should gather speed this year. Private consumption will remain robust thanks to a strong labor market and growing wages, and fixed investment will rebound, boosted by the new cycle of EU investment funds. A slowdown in growth in the EU represents the main downside risk to the outlook. Panelists see GDP growing 2.6% in both 2017 and 2018.

HUNGARY | Fiscal stimulus likely to shore up growth

Growth in the fourth quarter disappointed as the industrial and construction sectors stalled. The unexpected quarterly deceleration contributed to GDP slowing down to a four-year low in 2016, which a difficult year as EU-investment funds dried up.  2017 is set to be a more promising year as Hungary is expected to shed lingering slack. EU funds will flow into the economy again and an aggressive fiscal stimulus plan by the government coupled with a solid labor market and lax monetary policy will keep the economy on a solid footing. Credit S&P Global Ratings noted the strong growth momentum and affirmed the country’s rating and outlook in February. The agency underscored the country’s substantial external buffers and the unlikelihood that there would be a fiscal derailment although there have been tax cuts and increased spending.

The outlook is bright as loose monetary conditions, a planned 15–25% minimum wage hike, increased EU funds inflows, tax cuts and a solid labor market will boost economic growth this year and next. Our panelists forecast that the economy will expand 3.0% in 2017, which is unchanged from last month’s forecast. For 2018, it is expected to grow 2.9%. 

POLAND | Tensions continue between government and EU

Poland’s economy appears to be gaining momentum at the start of 2017, after GDP growth edged up at the end of 2016. A tight labor market and government stimulus measures are fueling a consumption boom, evident in double-digit growth in retail sales in January. Industrial production also accelerated strongly in the same month and business confidence rose in February, as the economy kicked into a higher gear. Meanwhile, the government continues to clash with EU officials over the rule of law. The government is refusing to implement European Commission-demanded judiciary reforms to improve the state of democracy, after a series of controversial laws last year sparked concerns. The country could lose its voting rights within the EU if the conflict persists.

The economy is seen picking up moderately this year amid a recovery in investment and a tight labor market. The Met the why particular panel sees growth of 3.1%, which is up 0.1 percentage points from last month’s projection. In 2018, the panel sees GDP expanding 3.3%.

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ROMANIA | Planned spending increases prompt fiscal concerns

The economy accelerated at the close of 2016, propelled by strong domestic demand. Q4’s GDP outturn brought 2016’s overall growth rate to 4.8%, the fastest pace since 2007 and the highest mark in the EU. The government is counting on the growth momentum carrying over to justify its 2017 budget, which was passed in February and foresees large spending increases, on defense for example. The budget deficit is expected to come in at 2.99% of GDP this year, within the EU’s 3% limit, but this is based on very optimistic GDP growth forecasts. The projections are so at odds with the consensus view of a slowdown that the President voiced serious reservations regarding the budget’s credibility, despite signing the bill into law. The government is still reeling from its failed attempt to introduce legislation to soften anti-corruption standards, which caused mass protests across the country and cabinet ministers to resign, though the government survived a parliamentary vote of no confidence.

GDP is expected to grow solidly this year, albeit at a softer pace. Private consumption will continue to be the main driver of growth but is expected to be weighed down by higher inflation. Rising regional tensions and an incendiary domestic political climate pose the main downside risks to growth. Still, our panelists predict an expansion of 3.8% in 2017, which is up 0.1 percentage points from last month’s forecast, with growth of 3.3% penciled in for 2018.

INFLATION | Price pressures soar in January

According to an estimate produced by Met the why particular, inflation rose to the highest level since August 2013 in January. Inflation in the CEE region rose to 1.6% from December’s 0.9% as the effect of low oil prices waned and all of the economies saw positive price pressures for the first time in over three years.

Higher commodity prices along with booming consumption will fuel inflation this year. The Met the why particular panel sees inflation of 1.8% this year, which is up 0.1 percentage points from last month’s projection. This month’s 2017 outlook reflected upward revisions to inflation forecasts for seven countries in the region, including the Czech Republic and Poland. In 2018, inflation is expected to rise slightly to 2.1%. 

See the Full Met the why particular Central and Eastern Europe Report

Written by: Angela Bouzanis, Senior Economist

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