South Eastern Europe: Regional GDP expands at faster-than-estimated pace in Q3
January 10, 2018
The economy of the South-Eastern Europe (SEE) region roared through the third quarter of 2017, supported by robust global demand, ample fiscal stimulus programs and increased EU funding. Comprehensive GDP data shows the region’s economy expanded 8.2% from the previous year in Q3, the best reading in more than a decade. GDP growth was stronger than the 6.0% estimate previously reported and nearly double the 4.5% increase recorded in Q2. The quarter’s outstanding performance largely reflected breakneck growth in Romania and Turkey, while growth also picked up across most of the remaining countries in the region.
Turkish GDP rose an impressive 11.1% from the previous year in Q3, surpassing already-upbeat market expectations of an 8.5% increase. The government’s Credit Guarantee Facility (CGF), temporary tax cuts and nationwide campaigns to boost residential investment all lifted domestic demand through the quarter, while exports grew at the fastest clip in over five years on a weak lira and strong European demand. Despite the short-term benefits, the credit-fueled performance has come at the expense of a marked deterioration in the country’s fundamentals, with price pressures mounting and both the fiscal and current account deficits widening. This, coupled with persistent political uncertainty, has kept the lira under pressure and has forced the Central Bank to tighten its monetary stance, although the extent to which it has done so has largely fallen short of market expectations.
In Romania, Q3 GDP growth came in at a nine-year high of 8.8% on the back of the government’s loose fiscal stance, an improving labor market and strong investment in equipment. The economy’s robust performance did not, however, prevent the leu from reaching all-time lows in late December amid protests against the government’s controversial decisions to overhaul the justice system. The economic recovery in Greece also continued in Q3, although it lost some traction from the previous quarter due to high unemployment and the lingering effects of years of austerity. GDP growth in the Bulgarian and Croatian economies also accelerated from the previous quarter in Q3 on higher absorption of EU funds and upbeat employment figures.
Despite the region’s strong overall performance in Q3, growth is expected to have moderated notably in Q4 on the back of waning momentum in Turkey, where unchecked inflation, rising oil prices and depleted fiscal stimulus measures likely caused growth to soften from the previous quarter. Economic growth is expected to have held up somewhat better in the remaining countries in SEE, as ample FDI flows and strong global demand buttressed the region’s economies. FocusEconomics estimates regional growth of 4.3% in the fourth quarter.
Regional growth to slow this year following 2017 fiscal stimulus
The South-Eastern European economy is projected to grow 3.5% this year following an estimated 5.3% increase in 2017. The region’s slowdown will mainly stem from weaker growth dynamics in Romania and Turkey, which will be only partially offset by Greece’s ongoing recovery. Higher inflation and fiscal restraint in Romania will see growth moderating to an extent, while the withdrawal of fiscal stimulus measures in Turkey will cause domestic demand growth to slow. GDP growth in the Bulgarian and Croatian economies is also expected to lose some steam this year, while momentum in the remaining countries in the Balkans should strengthen due to improving domestic fundamentals and resilient FDI inflows.
The Consensus Forecast for this year is up 0.2 percentage from last month’s estimate and reflects positive spillovers from 2017’s robust performance. 7 of the 12 economies surveyed in the region, including major players Romania and Turkey, are expected to grow at a faster clip than estimated last month, while the Macedonian economy is the only one to have seen a downgrade this month. GDP forecasts for the remaining countries in the region are unchanged from last month. For 2019, our panel estimates the region’s economy will grow 3.4%.
The economies of Romania and Kosovo are both expected to grow at the fastest rate in the region this year, with expansions of 4.2% and 4.1%, respectively. Turkey, the region’s largest economy, is seen growing 3.7% this year. On the other end of the spectrum, Greece is expected to log the weakest expansion, at 2.1% growth.
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TURKEY | Economic growth to moderate this year due to the removal of fiscal stimulus
The economy expanded at a blistering pace in the third quarter as double-digit credit growth, a healthy external sector and a positive base effect drove year-on-year GDP growth to a near seven-year high of 11.1%. Household spending accelerated sharply due to an unsustainable fiscal stimulus, while capital expenditure growth was balanced and robust across components. Economic growth is expected to have moderated considerably in the fourth quarter as the government’s fiscal measures wind down and the country’s imbalances become more visible. The current account deficit continued to deteriorate through October as import growth outpaced export growth, further exposing the country to shifts in investor sentiment due to Turkey’s reliance on short-term capital flows to finance the deficit. Nonetheless, leading data for the real sector and sentiment indicators both suggest resilient growth in Q4.
The unwinding of the government’s fiscal stimulus and the recent deterioration in fundamentals will weigh on the country’s economic prospects this year. Similarly, persistent political noise and a volatile lira will continue to tame investors’ appetite for Turkish assets. The FocusEconomics panel expects growth of 3.7% this year, which is up 0.2 percentage points from last month’s estimate. Our panel also expects growth of 3.7% in 2019.
ROMANIA | Leu hits all-time lows on government plans to reform the judiciary system
Revised data for Q3 confirmed that the economy posted the fastest annual growth rate since Q1 2008. A surge in household spending on the back of a tightening labor market and expansionary fiscal policy were behind the positive reading. Available data for Q4 suggests the economy continued to perform well in the last quarter of the year. In October year-on-year growth in industrial production jumped from the previous month, led by a strong manufacturing sector. Solid external demand, as reflected by export data, drove the result. Also in the same month, the unemployment rate fell to a new multi-year low. This, together with a further increase in household disposable income, buttressed consumer spending. Retail sales continued to expand annually at a double-digit rate. However, on 29 December the leu weakened to an all-time low against the euro amid unrest caused by protests against government plans to reform the judicial system.
In 2018 the economy is expected to post another year of healthy growth, although the rate of expansion should be more moderate. Growth in household spending will continue to support the economy, but it will likely ease as rising inflation eats into consumers’ pockets. Moreover, fixed investment should pick up as the absorption of EU investment funds improves. FocusEconomics panelists expect growth of 4.2% for 2018, which is up 0.2 percentage points from last month’s forecast. They see the economy expanding 3.5% in 2019.
BULGARIA | Insufficient progress in efforts to combat corruption taint country’s assumption of EU presidency
A second release confirmed the solid economic momentum in Q3, with GDP growth at 3.9% year-on-year, driven chiefly by the domestic economy. It was spearheaded by marked growth in private consumption and fixed investment. Improving labor market conditions and higher wages have been supportive of private consumption, while the resumption of EU investment funds fueled fixed investment growth. The growth momentum is, however, likely to moderate somewhat in Q4 as suggested by a further deceleration in annual growth in industrial production in October. On 30 November, the National Assembly passed the 2018 budget, which incorporates an increase in public expenditure and raises the minimum wage. While this should support growth going forward, disputes with the EU over Bulgaria’s seeming inability to combat corruption could drag on growth. Foreign investment, for example, has been deterred by the high level of corruption. President Rumen Radev vetoed an anti-corruption bill in December. This is especially significant in the wider context of the EU because Bulgaria assumed the EU’s rotating presidency on 1 January.
Although economic activity is expected to remain solid on the back of a sound labor market and growth in public expenditure and fixed investment, a tussle with the EU over combatting corruption could drag on growth prospects. FocusEconomics Consensus Forecast panelists expect GDP to expand 3.4% in 2018, which is up 0.1 percentage points from last month’s forecast. For 2019, the panel sees growth moderating slightly to 3.1%.
CROATIA | Agrokor-related woes continue to weigh on the country’s outlook
Economic growth picked up in Q3 in annual terms, supported by slightly faster year-on-year growth in fixed investment than in the previous quarter, and a strong tourism season. Data for the last quarter of 2017 suggests that growth likely moderated. Industrial production in November contracted over the same month of the previous year, following six consecutive months of increases. Moreover, unemployment rose for the second consecutive month, although this was likely due to seasonal factors. The number of tourist arrivals, however, continued to record year-on-year increases in both October and November. Furthermore, annual growth in retail sales accelerated in November, following two months of slowdown. In late December, local suppliers of food giant Agrokor—which was put into state-run administration in April—rejected a draft agreement for settling the company’s debt obligations. A final deal must be reached by July of this year to avert bankruptcy. Uncertainty stemming from the failure to reach a settlement could weigh on financing conditions.
This year growth should moderate slightly from 2017, but remain healthy overall. Unemployment is expected to go down, which should, together with strong tourist inflows, support private consumption. Moreover, growth in fixed investment will likely accelerate thanks to stronger EU funds inflows. The strong economic performance should translate into a further decrease in the debt-to-GDP ratio. However, the uncertainty surrounding the restructuring of Agrokor remains a downside risk. FocusEconomics panelists project GDP growth of 2.8% in 2018, up 0.1 percentage points from last month, and 2.6% in 2019.
INFLATION | Inflationary pressures mount in November
Inflation in the South-Eastern Europe region continued to trend higher in November as price pressures in Turkey reached a 14-year high due to pass-through effects from a weakened lira, sticky core inflation and robust domestic demand. Inflation also accelerated to new multi-year highs in Bulgaria and Romania on solid domestic pressures. Inflation in the SEE economy picked up from 7.5% in October to 8.3% in November, the highest reading since October 2008. Inflation accelerated in all countries in the region except for Albania and Bosnia.
Mounting price pressures are being met with tighter monetary conditions. In Romania, the Central Bank hiked the policy rate at its 8 January monetary policy meeting, citing rising inflationary pressures and buoyant economic activity. The Bank’s decision to increase the main interest rate was the first hike since May 2015. The Central Bank of the Republic of Turkey (CBRT) also delivered further monetary tightening in mid-December as the currency came under severe pressure and inflation reached a new multi-year high in November. At its 14 December monetary policy meeting, the CBRT increased the late liquidity window rate by 50 basis points to 12.75%. Although the move has been deemed insufficient by market analysts who had expected firmer action, the lira has recovered somewhat in recent weeks and inflation eased in December on a strong base effect, partially vindicating the Bank’s decision.
Panelists expect inflation to moderate this year on softer price pressures in Turkey, although the extent at which it is projected to do so is weaker than previously forecast. Inflation in the region is seen at 6.0% in 2018, which is up 0.3 percentage points from last month’s estimate. Forecasts were upgraded this month for 5 of the 12 countries surveyed, including Bulgaria, Romania and Turkey. Conversely, inflation is now expected to be softer in Albania, Cyprus, Kosovo and Serbia. In 2019, inflation is expected to moderate to 5.6%.
Written by: David Ampudia, Senior Economist