Eastern Europe: Growth Outlook Deterioration Continues. Russia, Turkey, Ukraine Forecasts Slashed.

The deterioration of Eastern European growth forecasts continued this month. FocusEconomics Consensus Forecast panelists slashed their GDP growth forecasts for Russia, Turkey and Ukraine, lowering the regional growth outlook for 2014 by 0.2 percentage points over last month. At the currently-projected 2.1% expansion, regional output growth is half a percentage point below the rate of expansion that was expected at the beginning of the year. The more pessimistic outlook mostly reflects rising tensions between Russia and Ukraine, which are likely to take a heavy toll on Ukraine and possibly on Russia as well. In Turkey, the ongoing power struggle between the government and the Gulen movement is eroding investor confidence at a time when the country is precariously dependent on capital inflows to finance its current account gap.

Photo by ToreaJade

Photo by ToreaJade

GDP Projection for 2014 Cut, Outlook Deteriorates 

Overall, panelists cut their 2014 GDP growth forecasts for 5 of the 14 countries surveyed. Forecasts for four countries remained unchanged and five economies saw an improvement in their forecasts. Prospects for 2015 are also deteriorating. Panelists cut their regional GDP growth outlook from the 2.9% expected last month to 2.8%.

Risk of Collateral Economic Damage Impact to Entire Region

The rising tensions between Ukraine and Russia dominated news over the past month and the crisis may have economic repercussions reaching far beyond the region. After the pro-Western opposition ousted Ukrainian president Viktor Yanukovich, Russia was quick to assume control of Ukraine’s Crimea region, deploying as many as 20,000 troops according to U.S. government estimates. Armed Russia supporters installed a new leadership in the regional parliament, which decided to hold a referendum on the future of the region on 16 March. The referendum will offer about 1.5 million voters the choice between joining Russia or renegotiating the autonomous region’s status within Ukraine. Maintaining the status quo is not an option in the referendum.

Given the composition of the population, the result of the referendum is almost certain to be pro-Russia. According to a census from 2001, ethnic Russians make up 59% of the region’s population, 24% are Ukrainian and 12% are ethnic Tatars. The United States, the European Union and Ukraine consider the referendum illegal and insist that Crimea should remain part of Ukraine. In what political observers describe as the tensest standoff between Russia and the West since the Cold War, both the U.S. and the EU have threatened that any Russian attempt to legitimize the referendum in Crimea would result in stronger sanctions. So far, the measures include suspending negotiations with Russia on establishing visa-free travel in Europe and suspending preparations for the G8 meeting scheduled for this summer in Sochi. Additional measures contemplated by the EU include travel bans and asset freezes against people linked to the Putin administration. Trade and financial sanctions could follow if Russia makes further incursions. Russian President Vladimir Putin claims to be open to a diplomatic solution, but he has also threatened retaliation if sanctions are imposed. Russia could, in turn, restrict gas exports to Ukraine or to other parts of Europe, which would hit the European economies at a moment when the economic recovery is still fragile. Russia is Europe’s largest natural gas supplier, accounting for about one-third of the continent’s gas consumption. Russia, however, depends on oil and gas exports, which account for half of its total exports and more than half of its government revenue.

Economists Send Ukraine Forecast Into the Red

In light of the rapidly changing dynamics, economists are struggling to adjust their forecasts. That said, it is clear that Ukraine will bear the brunt of the crisis. FocusEconomics Consensus Forecast panelists slashed their GDP growth forecasts for the current year from the 1.0% growth expected last month to a 0.3% contraction this month .The outlook for Russia suffered less, with the panel shaving just 0.3 percentage points off of last month’s GDP growth forecast to the currently-projected 1.9%

Turkey: Erdogan Scandal Keeps Spotlight on Political Tension, Local Elections

In Turkey, attention turned back to politics as the power struggle between Prime Minister Recep Tayyip Erdogan and the Gulen movement heats up ahead of the 30 March local elections. The rift between the two former allies became public after several ministers of the Erdogan administration were accused of corruption in mid-December. The conflict has escalated since then. Erdogan dismissed hundreds of civil servants who were considered to be close to the Gulen movement and tightened control over online media. In the latest escalation, audio tapes that link Erdogan to a corruption scheme were released at the end of February. While the conflict with the influential Gulen movement is likely to hurt Erdogan, the ruling Justice and Development Party (AKP) is nevertheless likely to win the local elections. However, a weak result could thwart Erdogan’s ambitions to run for president in August and he would probably opt for a fourth term as Prime Minister and run in the 2015 elections instead. The rising political uncertainty continued to erode investor confidence over the past weeks. In an attempt to stem the slide of the Turkish lira, the Central Bank sharply raised interest rates on 28 January. While the move successfully contained the weakening of the currency, tighter monetary conditions are threatening to choke the economy. Accordingly, panelists have further cut their GDP growth projections for 2014 and now expect the economy to grow just 2.4% this year (February: +2.9%). Moreover, medium-term growth prospects are also deteriorating, with the panel cutting the GDP growth forecast for 2015 by 0.3 percentage points to 3.8%.

Photo by European Parliament

Photo by European Parliament

Inflation Rises on Russia and Turkey Results, Hungary Central Bank Cuts Rate

Regional inflation inched up a notch in February to 4.5%, after having dropped to a 20-month low of 4.4% in January. The increase mainly reflects slightly higher inflation rates in Russia and Turkey. This month, all of the central banks, with the exception of Hungary, maintained their policy rates unaltered. Hungarian monetary authorities kept up their long-term easing policy and cut the base rate for a 19th consecutive month to a new record low. Inflation expectations for the region rose for the second consecutive month. The increase was once again driven primarily by a higher inflation forecasts for Russia, Ukraine and Turkey. FocusEconomics Consensus Forecast panelists now expect regional inflation to reach 4.8% in 2014, which is up 0.3 percentage points compared to last month’s forecast. In 2015, regional inflation is expected to drop to 4.6%.

Note: This is an excerpt from the FocusEconomics Consensus Forecast Eastern Europe –March 2014. Published March 11th, 2014. The full report (156 pages, covering 14 major economies from Central and Eastern Europe is available for immediate download at the FocusEconomics Online Store). For more information and a free sample of the report please visit our website.

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