Central and Eastern Europe

Central and Eastern Europe

Economic update - April 2021

In many countries, the development of the Covid-19 pandemic resembles a seesaw. Periods of declining infection rates are followed by phases of resurgence of the pandemic, usually after politicians, under pressure from a weary public and fearing excessive economic losses, relax restrictive measures. This is in general also the picture in the Central and Eastern European (CEE) region. Since February, we have seen strong increases in the number of infected people in the CEE region, particularly in Poland, Hungary, and Bulgaria. The Czech Republic and Slovakia, where the latest wave of the pandemic appeared earlier, are currently seeing an improvement in the situation, but the number of newly reported cases remains at very high (and volatile) levels (Figure CEE1).

Even though the current pandemic situation (not only in the CEE region) is not rosy, our economic outlook for the region remains optimistic. The arrival of spring and later summer seasons, the increasing natural immunity rate and, above all, the ongoing vaccination efforts, together with the development of targeted medication, raise hopes that the Western economies will gradually contain the viral outbreaks within a few months. Vaccination rates in most countries in the CEE region do not currently differ much from the EU average, except for Hungary, where they are substantially higher, and Bulgaria, where they are somewhat lower. Together with the expected increasing availability of vaccines in Europe in the coming months, we expect that the existing vaccination gaps between the likes of Israel, the US or the UK (with high vaccination rates) on the one hand,  and the EU (with relatively low vaccination rates) on the other (including CEE), will start to close rapidly.     

This more optimistic outlook should not hide the fact that the arrival of the latest pandemic waves complicated and delayed the economic recovery that we originally expected to gain strength in the first quarter of this year. While at the beginning of the year it was, in particular, the lack of some technical components (chips) that was hampering the export-oriented automotive industry in Central Europe, in March the negative effects of the pandemic made themselves felt once again. The latter gradually forced the governments in the Czech Republic and Slovakia to extend existing lockdown measures for a considerably longer period than originally expected. In Hungary, Bulgaria and Poland, the governments were eventually forced to re-introduce restrictive health measures. Naturally, just as they did last year, the very strict measures limiting people’s mobility will significantly weigh on activity within the service sector, in particular in the retail business and tourism-related services.

Considering the new and stricter measures introduced in March (and still in place) in almost all countries in the CEE region, a downward revision of the growth estimate for the first quarter of the year is more than justified. Specifically, we have revised down the GDP growth forecasts for all Central European countries from the previously expected slightly positive quarter-over-quarter growth to flat or slightly negative growth. This is in line with our downward revision of the Q1 growth estimate for the euro area (to 0% quarter-on-quarter). Since the Central European economies are small open economies, their growth path is to a large degree determined by euro area growth dynamics and European import demand for Central European goods and services. Moreover, as economies such as the Czech and Slovakian are specialised in industrial sectors such as the car industry, they also are part of international production chains in those sectors. This adds to the interconnectedness of the region’s business cycle with broader European growth dynamics.

The significant sectoral specialisation of the region in industrial sectors has made the region vulnerable to distortions of production chains, as illustrated by the ongoing shortage of semiconductors. Though we expect this to be a temporary phenomenon, it represents a downside short-term risk for the regional growth prospects in the region. 

Our generally more cautious growth estimate for Q1 is to some extent compensated by our expectation that there may be a positive compensating effect from Q2 on. As a result, we kept our annual growth forecast for 2021 on balance unchanged for the Czech Republic (3.5%), Hungary (4.5%) and Bulgaria (3%). Only our annual growth outlook for Slovakia was downgraded to 3.7%, based on our estimate of a severe contraction in Q1, which is unlikely to be offset in the remaining quarters of 2021. The extraordinarily sharp estimated contraction in Q1 reflects at least in part the very high degree of sectoral specialization of the Slovak economy, making it especially vulnerable to sector specific shocks such as the semiconductor shortage.   

On a more positive note, Hungarian growth dynamics in 2021 are likely to be supported by more accommodative fiscal policy in the run-up to the parliamentary elections in 2022.  For this reason, we have also revised upward our estimate for the government budget deficit in 2021 to 7.5% of GDP.  

As regards the Balkan countries – Bulgaria and Romania – we maintain our previous growth outlook for the time being as our original forecasts for these countries were already quite conservative and, moreover, for Romania, no drastic containment restrictions were introduced in the first quarter. With respect to the economic outlook for the region beyond the first quarter, little has changed, but we remain cautious. Our basic scenario assumes that most countries in the region will start to gradually loosen their health restrictions in the coming quarters and that the highly affected service sector will be included. 

Box: Slovakia‘s political turmoil

Less than 12 months after Slovakia’s last election, the popularity of OLaNO, the leading party in the government, has declined substantially. The Covid-19 crisis and a dominant style of governing are important factors explaining the loss in popular perception. Recent polls suggest that the party would secure only 10.4% of the vote share—a notable decline from the 25.02% it secured in the election (FOCUS Polling Agency).  The personal popularity of former Prime Minister Matovič (the former leader of OLaNO) also gradually fell to 25%. 

Growing tensions among government parties eventually led to a coalition crisis at the beginning of March 2021, which was directly triggered by the import of Sputnik-V vaccines from Russia without agreement of the coalition partners and without a (prior) positive recommendation by the European Medicine Agency (EMA). The crisis escalated and the smaller parties requested PM Matovič’s resignation from his position. 

The risk of government fragmentation grew as some members of parliament (MPs) left their parties to become independent MPs. In an effort to raise pressure on Matovič, several ministers from smaller coalition parties stepped down from their positions. However, the political crisis was eventually solved at the beginning of April with the installation of a new government. The most significant change was the exchange of positions between Matovič and the then Finance Minister, Eduard Heger, (both OLaNO members). Smaller coalition parties now expect a calmer, more constructive, environment and a less conflict-oriented style of governance. 

The economic views of Matovič are not very well known as he focused mainly on the themes of corruption and the pandemic crisis. However, the newly named PM Heger is his close ally, and the Ministry of Finance is a stable office. The nearest and biggest challenge for the new Finance Minister will be finalization of the Recovery and Resilience plan and, importantly, stabilization of the public finances after the pandemic. No significant changes in economic policy are expected. 

Economic forecasts

Czech Republic

            2020 2021 2022
Real GDP  (average yearly change, in %) -5.6 3.5 4.5
Inflation (average yearly change, harmonised CPI, in %) 3.3 1.8 2.0
Unemployment rate (Eurostat definition, in % of the labour force, end of year) 3.1 3.7 3.0
Government budget balance (in % of GDP) -6.7 -7.3 -5.5
Gross public debt (in % of GDP) 37.5 43.0 45.7
Current account balance (in % of GDP) 3.2 2.1 1.3
House prices (Eurostat definition, average yearly change in %, existing and new dwellings) 8.4 3.7 2.4
            01/04/2021

Slovakia

            2020 2021 2022
Real GDP  (average yearly change, in %) -5.2 3.7 4.5
Inflation (average yearly change, harmonised CPI, in %) 2.0 0.7 1.5
Unemployment rate (Eurostat definition, in % of the labour force, end of year) 7.0 9.5 8.0
Government budget balance (in % of GDP) -8.0 -7.4 -4.5
Gross public debt (in % of GDP) 64.0 67.0 65.0
Current account balance (in % of GDP) -3.0 -3.5 -3.5
House prices (Eurostat definition, average yearly change in %, existing and new dwellings) 9.6 2.0 2.5
            01/04/2021

Hungary

            2020 2021 2022
Real GDP  (average yearly change, in %) -5.1 4.5 5.3
Inflation (average yearly change, harmonised CPI, in %) 3.4 3.8 3.3
Unemployment rate (Eurostat definition, in % of the labour force, end of year) 4.1 4.1 3.8
Government budget balance (in % of GDP) -8.1 -7.5 -5.2
Gross public debt (in % of GDP) 80.4 79.3 77.4
Current account balance (in % of GDP) 0.1 0.5 0.2
House prices (Eurostat definition, average yearly change in %, existing and new dwellings) 4.4 2.0 3.0
            01/04/2021

Bulgaria

            2020 2021 2022
Real GDP  (average yearly change, in %) -3.8 3.0 4.0
Inflation (average yearly change, harmonised CPI, in %) 1.2 1.9 2.2
Unemployment rate (Eurostat definition, in % of the labour force, end of year) 5.3 5.0 4.8
Government budget balance (in % of GDP) -3.0 -3.9 -2.0
Gross public debt (in % of GDP) 24.3 26.9 28.0
Current account balance (in % of GDP) 0.4 2.0 3.0
House prices (Eurostat definition, average yearly change in %, existing and new dwellings) 4.6 4.0 3.8
            01/04/2021

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