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Regional macroeconomic processes in nutshell Mai 20 10 OTP Bank Research Center

Regional macroeconomic processes in nutshell Mai 20 10 OTP Bank Research Center. How the crisis pushed the region into recession?. What is happening right now? Which policy mix to follow?. How OTP sees the future of the region?.

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Regional macroeconomic processes in nutshell Mai 20 10 OTP Bank Research Center

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  1. Regional macroeconomic processes in nutshellMai 2010OTP BankResearch Center

  2. How the crisis pushed the region into recession? What is happening right now? Which policy mix to follow? How OTP sees the future of the region?

  3. Five main factors pushed the region into recession at the beginning of the crisis and made the banking system vulnerable External factors Domestic factors • Falling external demand for exports • Demand for main export goods of the region - investment and durable consumer goods and tourism services - falls much sharply, than for non durable consumer goods. • Fiscal adjustments • Fall in revenues (lower economic activity) • Rising expenditures (higher unemployment) • Adjustment should be done ASAP!!! • Depreciation • Where FX lending is strong, depreciation, higher debt burden and lower bank lending also cut back consumption and investment • Sudden stop in capital flows • Convergence and the growth of CEE relies heavily on capital absorption. • Sudden stop in capital flows & lending: domestic demand collapsed. • Labor adjustment • Lower output: lower employment • This may last for many years, and also pull consumption back. Source: OTP Research

  4. With the sudden stop of capital flows regional capital absorption comes to an end, C/A deficits are down… Current account deficit to GDP (%) Russia Ukraine Bulgaria Romania Croatia Slovakia Serbia Montenegro Hungary Source: Consensus Economics, Eurostat

  5. Resulting also in a sharp drop in bank lending Private sector loan flows (in % of GDP) Source: Consensus Economics, Eurostat

  6. And a drastic fall in domestic demand… Domestic demand (in % of GDP) Source: Consensus Economics, Eurostat

  7. How the crisis pushed the region into recession? What is happening right now? Which policy mix to follow? How OTP sees the future of the region?

  8. With Greece new phase of the crisis has started? Sovereign defaults also in the developed world??? Subprime crisis & decoupling story Fall of Lehman & widespread credit crisis Consolidation, hope of V shaped recovery From: 2007 Q4. 2008. Q2. 2009 Q2. 2010 ??? Until: Q3. 2008. Q1. 2009. Q2. 2010 ??? ???? Countries with unsustainable debt Everywhere Everyone, especially CEE countries with high fiscal or C/A deficit Only developed countries Who:

  9. Why Greece? Debt sustainability in focus Public debt to GDP (%) • After Nov. 2009 it became very clear, that the debt path is not sustainable • Manipulated statistics • Nothing until January • Low adjustment, too optimistic conditions in January (rates, growth, spreads) • Eur 45 bn. was far from enough Source: Eurostat, OTP Bank Estimations

  10. Why Greece? II. After the EUR 110 bn package and a fiscal restriction of 11% the debt sustainability is still dubious Public debt to GDP (%) • Too slow adjustment (nothing happens in 2011) • Debt ratio peak is too high • Low adjustment: below 100% only in 2050? • Package is not supported by residents • How will the budget be financed after 2013? Source: Consensus Economics, Eurostat

  11. Who’s next? Public Source:, Eurostat

  12. What to do? • Fiscal policy: • Debt sustainability is a must • Adjustment should be carried out as soon as possible • In the lack of puffers (very low debt or fiscal reserves) no room for counter cyclical policy • Monetary policy: • Textbook says to depreciate in the case of an external demand shock • Depreciation is dangerous in the case of debt euroisation • Effect of depreciation to growth, through: • Exports: +, marginally decreasing • FX debt burden: -, linear • Precautionary savings: -, marg. incr. • Bank lending: -, marginally increasing • So depreciation above 10-15% will have recessionary effects (contractional depreciation) Source: IMF, World Bank

  13. How the crisis pushed the region into recession? What is happening right now? Which policy mix to follow? How OTP sees the future of the region?

  14. As it became clear that the developed world would fall into recession, expectations on divergence emerged… Evolution of expected GDP growth for developed and CEE countries, 2009 (%) Convergence Divergence Source: Consensus Economics

  15. Convergence will return in 2010 or 2011 latest as the main drivers of convergence are intact The pace of convergence depends on growth in the core counties • Theory and empirical evidence: • Convergence goes on until core countries do not fall into recession. • During a crisis export demand falls, capital flows reverse, spreads rise resulting in a temporary divergence. • After the core counties start to grow again, convergence process revives with some delay • Main drivers are intact: • Labor is still cheap (-40% even if we take into account productivity) • EU is still a unified market • Integrated banking system

  16. 0.0 Trade effects Adjusted fiscal and external position, higher growth potential: CEE countries are likely to outperform developed countries again after the crisis Budget deficit 2010-2012 avergae (in % of GDP) Change in public debt to GDP between 2010-2012 között (%-point) Potential growth after the crisis (%) Debt to GDP, 2009 (in % of GDP) Countries facing structural problems due to the crisis Greece 110 25.0 12.0 1.4 Ireland 35.0 2.0 13.5 UK 30.0 1.8 12.0 USA 24.0 2.1 13.0 Balanced developed countries Netherland 9.5 1.7 5.6 Denmark 2.0 1.8 3.8 Germany 7.0 1.8 4.6 France 13.9 1.7 7.5 Bulgaria 1.0 3 2.0 Small open economies in CEE Croatia 1.7 2.8 3.0 Hungary 0.5 3.0 4.0 Romania 6.0 4.0 4.2 Slovakia 1.4 4.0 3.2 Commodity exporters 4.5 Ukraine 5.0 4.5 3.4 5.5 Russia 4.2 Emerging countries with huge domestic markets 5.0 Brazil -3.0 2.4 India 0.4 7.0 5.5 China -4.0 8.0 3.0 source: EU Commission, Bloomberg, Focus Economics, IMF, IIF, OTP Bank 16 16

  17. But risks are still remarkable • What can be expected for the coming years: • Root sign recovery: Modest growth after rebuilding stocks, construction will not be a driver any more • Much lower capital and loan flows: risk aversion, higher, than the pre-crisis spreads, new banking regulation, fiscal policies should be built on lower employment numbers • Rising unemployment for at least H2 2010, but negative risks are dominating • Construction will fall everywhere • Main risks: • External: Another wave of recession • Fiscal adjustment will be forced out in many developed countries • The role of quantitative easing in the fast recovery is not known • How much funds were misallocated before the crisis? Are there any output gap? • Country specific: • Wrong economic policies • Structural problems: high share of construction, rigid labor markets Source: Consensus Economics, Eurostat

  18. Thank you for your attention!

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