South-Eastern Europe: Economic Snapshot for South-Eastern Europe
October 2, 2018
Growth slows notably in the second quarter, Q3 likely to be weaker still
According to a comprehensive estimate by FocusEconomics, South-Eastern Europe’s (SEE) economy lost steam in the second quarter and grew 4.2%, down notably from Q1’s 5.4% expansion but above last month’s preliminary estimate of 4.0%. The slowdown was driven chiefly by a moderation in growth in regional powerhouse Turkey, which accounts for around half of the region’s GDP.
That said, Turkey’s economy still performed resiliently in the second quarter. Private consumption growth was brisk, while government consumption received a boost from pre-election spending. In addition, the external sector strengthened markedly thanks to the weaker lira and healthy foreign demand. Meanwhile, a comprehensive GDP estimate for Romania—the region’s second-largest economy—left Q2’s growth untouched from the preliminary release, as solid wage gains drove private consumption.
A slew of positive national accounts figures for the region’s smaller economies were released over the past month. Albania saw growth clock above 4% for the second consecutive quarter as a multi-year low unemployment rate bolstered domestic demand, while growth in Montenegro reached a one-year high on a surge in fixed investment and Macedonia enjoyed a rebound from a soft Q1 thanks to a surge in exports.
Looking at Q3, most economies in the region likely performed well, supported by solid domestic demand and stronger tourism arrivals. However, the rapidly cooling Turkish economy dragged sharply on regional growth. All available indicators, such as the manufacturing PMI, confidence indices, and retail and vehicle sales, corroborate this picture.
Following August’s huge lira depreciation, Turkish authorities published a New Economic Plan in September, which aims to tighten the fiscal stance. Together with tighter monetary policy, this has restored some calm to the FX market and seen the lira regain ground. However, the move won’t be able to avoid a sharp loss of momentum in Turkey’s economy over the next few quarters.
Elsewhere on the political scene, Bosnia and Herzegovina is gearing up for general elections on 7 October. Economic and social concerns—such as the country’s painfully high unemployment rate—have been at the forefront of the campaign. However, legal issues are casting doubts over the formation of a new government, following a ruling by the Constitutional Court last year which struck down parts of the electoral law.
In Macedonia, although a majority of voters recently approved the country’s proposed name change in a referendum, turnout was low, casting doubt on the popular mandate for the change. If the parliament now passes the required constitutional amendments, this would mark a major step towards EU and NATO membership, which could catalyze economic development.
Regional economy to hit the brakes going forward
The regional economy is seen expanding 3.4% this year, down 0.2 percentage points from last month’s projection, and 2.0% in 2019, down 1.0 percentage point from last month’s forecast. The downgrades are largely due to panelists drastically revising down their growth estimates for Turkey. In contrast, the region’s other economies should continue to perform well, supported by wage gains, a stronger absorption of EU funds, healthy tourist arrivals and robust external demand for goods. External risks stem largely from greater global trade protectionism and a possible sharp slowdown in the EU, the key market for South-Eastern European exports. A continuing deterioration of economic conditions in Turkey is the key internal risk; however, if the government follows through on its promise of fiscal consolidation, this should reduce economic imbalances and provide greater stability in the currency market going forward.
This month, panelists revised up their 2019 growth projections for Serbia, while downgrading their projections for Bosnia, Cyprus, Macedonia, Montenegro, Romania and Turkey. Forecasts for the region’s remaining economies for this year were unchanged.
Kosovo is expected to record the fastest expansion next year, while Turkey is expected to be the region’s weakest performer with 1.0% growth, which would be the weakest result in 10 years.
TURKEY | Economy is in a tailspin, government presents New Economic Plan
Recent indicators suggest the economy slowed sharply in the third quarter. Consumer and business confidence continued to plummet in September and are now both firmly in negative territory, while in the same month the manufacturing PMI sank lower on stronger contractions in output and new orders. Moreover, annual retail sales growth reached an over one-year low in July. Retail sales likely softened further in the remainder of Q3, on higher inflation and weaker sentiment. On the plus side, the gaping current account deficit has begun to narrow thanks to the weaker currency and softer domestic demand. This comes after recent figures show that growth held up well in the second quarter, buoyed by a stronger external sector, a pre-election government spending boost and robust private consumption. On the political front, in late September Treasury and Finance Minister Berat Albayrak, presented the much-anticipated New Economic Plan, which sets out a more constrained fiscal stance and far lower growth forecasts.
The economy will likely lose considerable steam in the next few quarters on tight financial conditions, weak sentiment and sky-high inflation. Further exchange rate volatility and an escalation of geopolitical tensions pose significant downside risks. FocusEconomics panelists expect growth of 3.6% this year and 1.0% in 2019, down 2.0 percentage points from last month’s forecast.
ROMANIA | Comprehensive data shows private consumption drove Q2 growth
Detailed data shows that GDP growth inched up in the second quarter, sustained by a robust expansion in consumer spending and a less negative contribution from the external sector. That said, the increase in private consumption was the weakest since Q4 2016. Moreover its pace of expansion decelerated for the third consecutive quarter, while fixed investment contracted, highlighting serious difficulties in the absorption of EU funds. Meanwhile, available figures for the third quarter suggest the economy has shifted into a lower gear from the impressive growth rates recorded in 2017. The healthy but decelerating retail sales growth in July indicates consumer spending has likely continued to increase, supported by a tight labor market but eroded by stubbornly high inflation. In the same month, construction output plunged in annual terms, which bodes poorly for fixed investment. Moreover, data for January–August shows that the budget deficit ballooned from last year, making negotiations with the European Commission on deficit containment more difficult.
Growth will decelerate further next year, restrained by cooling consumer spending and government sluggishness in using EU funds. Unless measures to reduce fiscal and current account deficits are taken, they will add to economic and financial instability in case of capital outflows stemming from the Fed tightening cycle and financial turbulence in emerging markets. FocusEconomics panelists expect growth of 3.9% for 2018 and down 0.1 percentage points from last month’s forecast
BULGARIA | Economic growth remains firm in Q2
Comprehensive national accounts data confirmed another solid outturn for the economy in the second quarter, driven by firm domestically-led gains. Fixed investment grew robustly but eased in line with looser industrial capacity, while household spending jumped amid strong employment gains—and despite sharply higher inflation. Meanwhile, as was seen more broadly across Europe, exports of goods and services moderated as this year’s retreat from global trade ate into external demand. Analysts are banking on a strong second half of the year, although available data for the third quarter has been noticeably less upbeat in recent weeks. Despite the tight labor market and firm retail sales through July, unremarkable industrial output and companies’ newfound pessimism suggest some moderation domestically, while Turkey’s economic crisis is likely to further afflict the external sector.
Household spending will run up against slower employment gains and elevated inflation next year. Meanwhile, cheap borrowing and strong absorption of EU funding are expected to buttress fixed investment. Exports should be buoyant and, over the medium-term, sound fiscal policy should translate into greater FDI inflows. FocusEconomics panelists expect growth of 3.6% in 2018 and 3.4% in 2019, unchanged from last month’s forecast.
CROATIA | Economic signs for the third quarter are positive
Healthy economic activity seems to have held up in the third quarter, following a solid second-quarter expansion that was chiefly driven by external demand. The labor market continued to improve, reflected by the unemployment rate hitting all-time lows in July and again in August. Despite inflation firming up recently, robust gains in nominal wages have propped up real household incomes, likely contributing to the modest rise in annual retail sales growth in July. Although the number of tourist arrivals dropped slightly in year-on-year terms in the same month, they rose solidly on aggregate in January through July, pointing to another record year for tourist visits. Meanwhile, on 21 September, S&P Global Ratings revised Croatia’s credit rating outlook from stable to positive, owing to their expectations that the economy will continue to strengthen and its fiscal and debt metrics improve.
Solid growth is expected to continue next year, underpinned by healthy gains in private consumption and increased capital spending. A dynamic tourism industry should also contribute to maintain a healthy current account surplus. Meanwhile, risks associated to the disorderly restructuring of Agrokor, the country’s largest private employer, have dissipated after creditors reached a debt-settlement deal in July. Downside risks to the outlook stem mainly from the external environment in which an escalation of the China-U.S. trade war or a slowdown in Italy and Germany, Croatia’s main trading partners, could dent export activity. FocusEconomics panelists project GDP growth of 2.7% in 2018 and 2.7% again in 2019, unchanged from last month’s forecast.
INFLATION | Inflation rises in August
In August, regional inflation increased to 10.5% from 9.4% in July, largely due to an intensification of price pressures in Turkey on the tumbling lira. Higher inflation in Cyprus, Greece, Kosovo, Romania and Serbia also helped push up August’s figure.
Regarding monetary policy, Turkey’s Central Bank hiked its main policy rate from 17.75% to 24.00% in mid-September to protect the currency and rein in runaway inflation, pledging further rate hikes if necessary. In contrast, the central banks of Serbia, Macedonia and Albania stayed put on muted domestic cost pressures.
Developments in Turkey will continue to drive regional inflation going forward. Over the next few quarters, price pressures in Turkey will likely increase due to the pass-through effects from the weaker lira, although Turkish inflation should gradually subside heading into the second half of 2019. With the exception of Turkey, price pressures will be fairly mild across the region next year. In 2018, regional inflation is expected to average 9.0%, before rising to 9.4% in 2019.