South-Eastern Europe: SEE decelerated in Q2 amid domestic headwinds
September 7, 2016
Recent data show that the economy of the South-Eastern Europe (SEE) region decelerated further in the second quarter. After 3.5% growth in the first quarter, our panel of analysts expects the region to have decelerated and expanded 3.3% in Q2 over the same period last year. The slowdown is likely due to weaker economic developments in Turkey, the region’s biggest economy. In addition, Serbia’s economy grew only 2.0% in Q2, which came in below the previous quarter’s 3.8% expansion. The disappointing performance came on the back of a deceleration in exports and fixed investment, while total consumption was robust. On a positive note, Romania’s economy grew substantially in the second quarter and its GDP expanded at the fastest rate in nearly eight years supported by domestic demand, which has been boosted by VAT cuts and higher public salaries.
Taking a closer look at the region’s key players, in the second quarter, positive developments were recorded in Greece, where the economy contracted only 0.1%—the softest decrease in a year. Despite Q2’s improvement, the Greek economy remains very weak. Tax increases and pension cuts coupled with unfavorable conditions in the labor market have harmed private consumption, thus making it difficult for the economy to rebound in the short term. Meanwhile, in late August, the Greek government resumed a new round of talks with international creditors. The key issues on the agenda are the completion of the second review of the country’s third bailout program and the disbursement of the next loan tranche of EUR 2.8 billion. In Turkey, the economic effect of the failed coup attempt is still unclear. While tourism and investment will likely be the most affected by the political impasse, consumer confidence remains robust. Much will depend on the government’s policy response going forward, which will be crucial in shaping credit rating agencies’ decisions.
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In the coming months, growth dynamics in SEE will be dominated by escalating political uncertainty and security concerns in Turkey. Moreover, the ongoing refugee crisis and Greece’s long-lasting debt saga pose downside risks to the the region’s outlook. Economic prospects in the SEE region will also depend on the pace of recovery of the Eurozone and further policy action by the European Central Bank. Our panel of analysts expects the SEE region to decelerate further in Q3 and expand a meagre 1.9%.
Growth prospects unchanged in September
This month, the outlook for South-Eastern Europe’s economy was unchanged over the previous month’s estimate. FocusEconomics panelists expect the SEE economy to expand 2.7% this year. Projections were maintained at last month’s forecasts for four countries including Bosnia and Herzegovina and Serbia. Conversely, GDP forecasts were revised up for five economies, while Macedonia, Montenegro and Turkey were the only countries for which this year’s growth projections were downgraded. For next year, our panel of economists foresees the economy expanding 2.9%
Romania will be the fastest growing economy this month, followed by Montenegro. Conversely, the worst performers are expected to be Greece and Croatia, in that order. Among the other major economies in the region, Turkey will likely grow the fastest, with a projected expansion of 3.3%.
BULGARIA | Private consumption supports growth in Q2
Preliminary data showed that Bulgaria’s economy accelerated slightly in Q2 as a result of a solid expansion in total consumption, which partly offset a contraction in fixed investment. On the external side of the economy, both exports and imports of goods and services increased in Q2, which suggests that Bulgaria’s relatively open economy has not been negatively affected by Brexit so far. Meanwhile, industrial production rebounded in June, expanding at the fastest rate since August 2015. Following the completion of its asset quality review and the stress tests of the Bulgarian banking system, the Central Bank concluded in August that 22 banks met the EU-wide minimum capital requirements but it has instructed another two, which did not, to increase their capital. These measures are restoring trust in the Bulgarian banking system following the collapse of Corporate Commercial Bank in 2014.
Private consumption is expected to support economic growth going forward, whereas investment will remain weak following the completion of a large number of EU-financed infrastructure projects under the EU’s 2007-2013 funding cycle at the end of 2015. The analysts we polled expect GDP to expand 2.7% in 2016, which is up 0.1 percentage points from last month’s forecast. In 2017, they see growth of 2.8%.
CROATIA | No party to win absolute majority in legislative elections; economy accelerates in Q2
The economy expanded 2.8% in annual terms in Q2, which represented a slight acceleration over Q1’s result on the back of stronger fixed investment and government consumption, while private consumption growth was virtually unchanged. The contribution of the external sector to growth was more negative, as imports of goods and services increased at a stronger pace than exports. In the political arena, legislative elections will be held on 11 September. The latest polls point to a close result between the center-right Croatian Democratic Union (HDZ) and the center-left Social Democratic Party (SDP), although neither is seen winning an absolute majority. So it is likely that the liberal-conservative Bridge of Independent Lists (MOST) will be the kingmaker in the formation of a coalition government.
The economy will gain steam this year, on the back of stronger fixed investment and private consumption. The buoyant tourism sector will be one of the engines of growth. However, the possibility of a new less market-friendly government poses downside risks to Croatia’s outlook. Analysts expect GDP to grow 2.0% in 2016, which is up 0.2 percentage points from last month’s forecast. They also expects the economy to grow 2.0% in 2017.
ROMANIA | Surging wages boost economic activity
In Q2 the Romanian economy grew at the fastest pace since Q3 2008. GDP grew 6.0%, up from a 4.3% expansion in Q1, making Romania the fastest-growing economy of the quarter in the region. Domestic demand likely remained the main driver of growth thanks to the government’s aggressive expansionary fiscal policy in the run-up to this year’s parliamentary elections. Tax cuts and public sector wage hikes have caused double-digit increases in average wages, leading to a consumption spree evidenced by strong retail sales growth over the past year. However, the pre-electoral fiscal package also risks increasing the country’s vulnerability to external shocks: after the government had reined in both the fiscal and current account deficits in recent years, the current account recorded its largest deficit in over three years in Q2, while the budget shortfall is expected to fall just within the EU’s upper limit of 3.0% this year. On the political front, the government confirmed this year’s parliamentary elections for 11 December.
Domestic demand will remain the engine of growth this year, but the outlook remains vulnerable to an adverse external environment: along with Brexit-related uncertainties, the fallout from the attempted coup in Turkey has already negatively affected Romanian exports to Turkey, its largest non-EU trading partner. Panelists expect the economy to grow 4.5% this year, which is up 0.3 percentage points from last month’s forecast. In 2017, the panel foresees economic growth moderating to 3.5%.
TURKEY | Political risks and security concerns will impact growth this year
Recent economic data suggest a slowdown of the economy in Q2 as industrial production decelerated in June and the PMI recorded relatively low readings in the four months up to July. However, the economic impact of July’s unsuccessful military coup in the second half of the year is unclear. Consumer sentiment remains sound and the index hit a nine-month high in August, thus signaling strong private consumption in the months ahead. The lira has recently gained considerable ground following the plunge it experienced in the days after the attempted coup. Conversely, there might be negative consequences on the already-battered tourism sector and the increased political uncertainty—which culminated with the recent resignation of the Interior Minister—could discourage investment in the short run. Investors’ worries have translated into lower business confidence, causing the index to drop significantly in August. Much will depend on the government’s policy response, which will be crucial in shaping credit rating agencies’ decisions.
Mounting political turmoil in Turkey will drag on business sentiment going forward. This situation, coupled with security concerns in the country, will impact growth. On the upside, decisive government support and a more accommodative monetary policy have the potential to shore up economic activity. On balance, FocusEconomics Consensus Forecast panelists forecast that GDP will grow 3.3% this year, which is down 0.1 percentage points from last month's projection. Next year, the panel sees GDP expanding 3.2%.
INFLATION | SEE inflation jumps in July
In July, inflation in the South-Eastern Europe region increased from 3.9% in June to 4.6%. The figure marked the highest reading in six months and was mainly due to higher inflation in Turkey—the region’s largest economy. Elsewhere in SEE, higher price pressures were recorded in Albania and Serbia, while 8 of the 12 countries surveyed posted a negative annual variation in consumer prices.
This month, our panelists left their 2016 inflation forecast unchanged at the previous month’s 4.2%. This reflects unchanged estimates for 6 economies including Greece and Serbia. Our panel forecasts that inflation will accelerate to 4.7% in 2017.
Written by: Dirina Mançellari, Senior Economist