EBRD Chief Economist Says “Eastern Europe Holding Up Well But Will Be Affected”

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EBRD Chief Economist Says “Eastern Europe Holding Up Well But Will Be Affected”

The EBRD is still expecting the countries of eastern Europe and the former Soviet Union to perform well despite recent turbulence in worldwide financial markets, although the region will not be totally unscathed. “The region is holding up well, but it will be affected”, the Bank’s Chief Economist Erik Berglof said on Wednesday. As a result the EBRD is expecting lower growth in the region this year of about 0.5 percentage points.

In its latest Transition Report, published in November, the EBRD forecasted average growth in its 29 countries of operations – covering central and eastern Europe, south eastern Europe, Russia, Ukraine, the Caucasus countries, Central Asia and Mongolia – in 2008 to be as high as 6.1 percent (after 7.0 percent in 2007). The Chief Economist is now expecting this figure to be 5.5 percent. However, “this is still a fast growing region with strong fundamentals”, Mr Berglof stressed.

The global financial crisis will affect the EBRD region through three channels, the Chief Economist explained: higher vulnerability in terms of liquidity; increased costs of borrowing; and the growth in the US . Mr Berglof stressed that the region so far has withstood external pressures “remarkably well”. The costs of borrowing have already been rising since August as “we are moving towards a more appropriate risk pricing”, he said.

The impact of a further slowdown or even a recession in the US will only have a “modest impact” on eastern Europe and the former Soviet Union as these countries are not highly dependent with their exports on the US market. Furthermore, “this has already been anticipated for quite some time”, Mr Berglof said.

Asked about the impact of lower interest rates on inflation, the Chief Economist stressed that “inflation is an issue across the whole [EBRD] region”. “The rapid credit growth in some countries is a reason for concern and we have been saying that for some time.” There are, however, also positive examples where concerted efforts have brought seemingly difficult situations under control.

High levels of current account deficits, high exposure to foreign borrowing and political uncertainties in some countries in the region are other potential worries. Mr Berglof stressed, however, that “there is a general awareness” in the EBRD countries of the problems and how to solve them.

One import element is a strong and independent supervision of the banking system. The financial sector in the region has according to the EBRD’s assessment developed “tremendously well”, but this must not lead to complacency, Mr Berglof stressed. Whether the financial crisis will prompt western banks which are strong investors in the east to reduce their engagement was too early to tell: “We need to watch this very carefully.” A reduction in credit growth can also help to achieve a “necessary down-sizing”.

For the EBRD recent market developments are expected to lead to higher demand for EBRD finance “but also for the transition impact our projects have”, Mr Berglof stressed. In more turbulent times the countries of the region need a strong partner who can provide finance but also support with necessary institutional changes.

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