Emerging Europe: Geopolitical Tensions Taking a Toll

Growth slows down in much of the region

Geopolitical risks and weak growth in the euro area weigh on the outlook

Reviving corporate credit and investment are crucial to secure a robust recovery

Inflation paths have also diverged across the region. Declining world food and energy prices and low imported inflation from the euro area have continued to pull down prices across most of CESEE except Turkey, Russia and the rest of the Commonwealth of Independent States (CIS), where high domestic food prices and exchange rate depreciation have kept inflation high, says the IMF in a report launched in Washington today.

Significant risks

The report expects growth to strengthen in 2015 to 1.7 percent, assuming tensions gradually ease and sanctions and counter-sanctions are lifted or allowed to expire over the coming year.

However, several downside risks cloud the near-term outlook:

• Sustained tensions surrounding Ukraine/Russia could have a strong negative impact on the region because of weaker confidence, weaker export demand from Russia, and reliance on gas imports from Russia, which account for a significant part of total energy consumption in many countries.

• A more protracted slowdown in the euro area than currently envisaged could have a negative impact on growth and inflation in CESEE, especially with the evidence showing that non-euro area European Union (EU) countries are importing low inflation from the euro area (see chart).

• Tightening in global financial conditions and renewed surges in global financial market volatility could hamper financing conditions as the region relies heavily on foreign funding.

• An escalation of conflicts in the Middle East could lead to disruptions in global oil production, causing a sharp rise in prices. The impact on the region could be significant given that all CESEE countries (with the exception of Russia) are oil importers.

In light of these risks, securing robust economic recovery remains the key near-term priority, while lifting potential growth is the main medium term goal, says the IMF.

Securing recovery

The report noted that recovery in corporate credit and investment is essential for robust and balanced growth. To that end, some countries (including many in Southeastern Europe) need a comprehensive strategy to address corporate debt problems and the large stock of nonperforming loans. Such a strategy should include fostering more out-of-court debt workouts and addressing legal...