Eastern Europe faces fragile recovery

Eastern Europe remains vulnerable to banking crises

The countries of central and eastern Europe will enjoy only a “fragile and patchy” economic recovery in 2010 and the region remains vulnerable to the sort of banking crises that hit Latvia this month, the European Bank for Reconstruction and Development warned.

The region will see an average growth of 2.5% in 2010, the London-based EBRD said in an update of its forecasts. That was up from a previous forecast of 1.5% rise in gross domestic product but mainly because the drop in GDP this year will be worse, at 6.3%, than the development bank had previously thought.

Latvia came close to a financial meltdown last week as ministers sought to keep within the terms of agreements it made earlier this year with the International Monetary Fund and European Union after Swedish banks complained that monies due to them were not being paid. Latvia’s GDP is now forecast by the EBRD to slump by a huge 16% this year alone.Jerome Zettelmeyer, the EBRD’s director for policy studies said the risk of such events in the region “has receded but is still quite high. These sorts of episodes are not over”. He declined, however, to say which countries were the most likely to see problems.

He said non-perfoming loans by banks were an accident waiting to happen while it fears that many banks have under-reported the extent of these.

As with most forecasters, the EBRD was caught out by the severity and depth of the recession that swept the 29 countries it is responsible for lending to. A year ago it forecasts positive growth of 3% for the region this year.

Zettelmeyer said it would be some time until things returned to normal. “There is a tendency to equate ‘normal’ growth with the boom phase of 2006-2007 but I don’t think we will return to that for a long time, if ever. And I don’t think we should as that was unsustainable,” he said.

The EBRD’s figures show that countries such as Azerbaijan, Turkmenistan and Uzbekistan have done relatively well in the downturn thanks to their having oil or commodities which cushioned them. Those with sound banking systems such as Poland, Albania and Slovakia also fared relatively well but the Baltic states – pumped up by foreign exchange mortgages and housing booms, have collapsed, as has Ukraine. Russia, too, was clobbered by huge outflows of foreign capital in the last quarter of 2008 and will suffer an 8.5% drop in GDP this year, the EBRD thinks.