South-Eastern Europe: SEE growth likely peaked in Q1
August 2, 2017
The economy of the South-Eastern Europe (SEE) region got off to a strong start to the year, buttressed by front-loaded growth in the Turkish and Romanian economies and increased European demand for foreign goods and services, which propelled growth in exports across SEE countries. The region’s economy expanded 4.1% in annual terms in the first quarter, a noteworthy improvement from the 3.0% increase seen in the previous quarter and the best result in nearly a year.
Looking at the second quarter, economic momentum is expected to have waned to an extent as a result of more moderate economic dynamics in Turkey, with our panel of analysts penciling in growth of 3.3% for the region as a whole. Indeed, the Turkish economy likely has less wind in its sails as multi-year-high inflation dents consumers’ purchasing power, and despite a buoyed external sector and the government’s counter-cyclical measures. Growth in Turkey is expected to lose further momentum in the second half of the year as temporary tax cuts on multiple consumer durable goods expire in September and the credit guarantee scheme comes to an end.
However, the region’s Q2 performance is expected to have been healthier than had been projected at the outset of the year, a view that is reinforced by a recent string of upbeat economic data across the region’s heavy hitters. In Greece, the economy is expected to have grown again in the second quarter after a stronger-than-expected first quarter print. In addition, the European Commission recommended last month that the European Council should end the country’s excessive deficit procedure, a nod to Greece’s efforts to turn around the economy and rein in the fiscal deficit. In Bulgaria and Croatia, growth is expected to have picked up pace in the second quarter on the back of improving dynamics in both the domestic and external sectors, while Romania’s economy is projected to have remained supportive of regional growth on account of its healthy industrial sector.
Projections upgraded for fourth straight month
The outlook for South-Eastern Europe’s economy was upgraded for a fourth consecutive month; the 2017 GDP growth forecast for the region was revised from 3.3% last month to 3.5%. The upgrade was largely the result of panelists’ more positive assessment of the Turkish economy following its strong Q1 performance and Greece’s brightening economic panorama. FocusEconomics panelists kept their projections for next year unchanged at 3.1%.
Elsewhere in the region, the outlook for 2017 was also upgraded in the Bulgarian and Macedonian economies. Conversely, only Serbia saw a slight downgrade to its economic forecasts, while the forecasts for the remaining seven economies in the region were left unchanged.
Romania and Turkey are expected to be the fastest-growing economies in 2017 with expansions of 4.6% and 3.9%, respectively. On the other end of the spectrum, major-player Greece is expected to be the region’s laggard, growing 1.0%.
BULGARIA | Economic momentum carries over into Q2
Recent data suggests that the Bulgarian economy continues to gain steam after a strong showing in the first quarter. Industrial production soared in the first two months of Q2, which, together with equally encouraging retail sales, suggests domestic demand will provide ample support to growth. Promisingly, the economic momentum seems to be fairly broad-based thanks to a healthy external sector, as indicated by faster exports growth. The economy’s solid performance has fed through to the labor market, where the unemployment rate reached the lowest level since early 2009 in June. On the political front, the government’s attempts to fight the country’s large shadow economy hit a snag in late July. The government’s proposal to halve the upper limit for transactions in cash was defeated in Parliament.
Higher inflows of EU funds and strong private consumption growth will largely keep the economy on its rapid growth path. A slower-than-expected absorption of EU funds poses the main downside risk to Bulgaria’s economy. FocusEconomics Consensus Forecast panelists expect GDP to expand 3.4% in 2017, which is up 0.1 percentage points from last month’s forecast, and 3.3% in 2018.
CROATIA | Favorable conditions to fuel strong Q2 reading
Croatia’s economy is benefiting from an improved external environment and strong private consumption, and so far seems to have been only slightly affected by the consequences of food and retail group Agrokor’s ongoing restructuring process. In the first four months of the year, exports expanded by almost a fifth—with shipbuilding recording exceptionally strong growth—on the back of robust demand from both European Union trading partners and the Balkan states. Moreover, the latest available data on tourist inflows shows that in the period from January to May arrivals surged by 15%, which translated into unemployment reaching fresh multi-year lows in both May and June. This, together with rising wages, both in the public and private sectors, is fueling private consumption, as suggested by healthy retail sales readings so far this year. In July, Fitch Ratings affirmed Croatia’s BB rating with a stable outlook, highlighting favorable cyclical conditions but also the country’s weak potential growth compared to peers due to adverse demographics and structural rigidities.
Growth in 2017 shouldn’t diverge significantly from last year. Favorable employment and wage dynamics together with another strong tourist season will spur private consumption, while fixed investment will benefit from higher EU funds and lower corporate taxes. However, Agrokor’s restructuring could impact credit growth as well as the company’s suppliers, constraining business investment. Analysts expect GDP to grow 2.8% in 2017, unchanged from last month, and 2.6% in 2018.
ROMANIA | Currency loses value despite a well-performing economy
The Romanian economy seems on track to reach new heights, even after Q1’s impressive GDP outturn. Industrial production soared in May, pushing average industrial production growth in Q2 far above Q1’s result, thus suggesting that GDP could grow at a faster clip in Q2. The newly installed government is doing everything it can to prop up output by pushing through a series of pro-cyclical measures, such as public-sector wage hikes and tax breaks. However, the new government walked back some of its promises, such as a further VAT cut, in an effort to keep its ballooning fiscal deficit under control. Yet this might be too little: the political turmoil coupled with the populist policy bent has weighted somewhat on the Leu, signaling a gradual loss in investor confidence.
The economy should record another year of robust growth this year, though risks of overheating are increasing. Growth is expected to be fueled by strong consumer spending, thanks to a combination of tax cuts and wage hikes. However, the lack of investment and the increasing fiscal pressure could lead to an abrupt adjustment down the line as investors turn their backs on the country. Our panelists predict an expansion of 4.6% in 2017, which is up unchanged from last month’s forecast, with growth of 3.7% penciled in for 2018.
TURKEY | Cabinet reshuffle allays investor concerns on interest rates and fiscal policy
The economy has surged so far this year thanks to expansionary fiscal policy and healthy export growth fueled by the weaker lira. In April, the unemployment rate dropped to a ten-month low, continuing the positive trend observed since the start of the year and highlighting the positive impact of the government’s employment campaign. In addition, the manufacturing sector is looking sprightly, with the capacity utilization rate remaining elevated in July and the PMI staying firmly in expansionary territory in the last few months. In a bid to rejuvenate the political scene in the same way, the Prime Minister reshuffled the cabinet in July. Most key positions are unchanged, and the reappointment of Mehmet Simsek as the sole economy minister is likely to calm investors’ nerves; he is widely regarded as a safe pair of hands and a fiscal moderate, in contrast to other big spenders in the cabinet.
The economy will continue to be boosted in the short term by buoyant private and public consumption due to the government’s fiscal stimulus, although this driver will become less important moving into 2018. Fairly weak investment growth due to political uncertainty will continue to drag on the economy’s overall performance. FocusEconomics panelists expect GDP to expand 3.9% in 2017, which is up 0.3 percentage points from last month’s estimate, and 3.3% in 2018.
INFLATION | Inflationary pressures continue to ease in June
Inflation in the South-Eastern Europe region softened for a second time in a row in June as pass-through effects of the weakening Turkish lira continued to ebb. Inflation eased from 7.3% in May to 6.8% in June, the lowest reading since February. The figure also reflected decelerating inflation in the majority of the countries, and it only picked up in Albania, Kosovo, Romania and Serbia.
This month, our panelists left their 2017 inflation outlook unchanged at 6.0% which, if confirmed, would mark the highest reading since 2011. The inflation forecasts for seven countries were revised upwards, while the only downgrades made were to the Croatian and Turkish estimates. The rest of the countries’ forecasts were kept the same. For 2018, our panel expects inflation to ease to 5.4%.
Written by: David Ampudia, Senior Economist