economic performance press conference

Thursday 15 October 2009

MR ANTHONY WILLIAMS (Head of Media Relations, EBRD): Thank you very much for coming to the 2009 presentation of the EBRD Economic Forecast. I am joined by Chief Economist Erik Berglof. As you know, these forecasts are taken from the Transition Report 2009, which will be published in two or three weeks’ time, so we are joined by Jeromin Zettelmeyer, who is the Director for Policy Studies at the EBRD, one of the senior economists and also the main author of the Report.

Let me deal with one or two housekeeping issues. You will have received the press release and the table. There are other editions of it around the room. Also on the table are press releases that go into more detail on individual countries. If you cannot find the one for a particular country in which you are interested, ask someone from the Press Unit and we shall ensure you receive a hard copy of it or we shall send you one.

I shall now ask Erik to make a few introductory remarks and then we shall take questions. As always, it would be useful, for the sake of the transcript, if you would identify yourself and your organisation.

MR ERIK BERGLOF (Chief Economist, EBRD): Welcome. You have the numbers. I shall make some general remarks and shall then be happy to answer questions on the specifics.

Looking back at this year, the region has suffered the worst decline in output since the transitional recession in the 1990s. There are five countries that we expect to decline by double-digit numbers this year. Looking at the region as a whole, growth will be negative, at minus 6 per cent or minus 6.5 per cent. We are still seeing non-performing loans and unemployment rising in the region. The crisis is not over, but there are positive signs of recovery.

Having said that, I think there is reason to reflect on why things were not even worse. From previous experiences of emerging-market crises, one would have expected this region, which was extremely exposed, to have fared much worse, with a combination of the banking crisis and collapse of currencies. I think there are two main reasons why that did not happen. One is the nature of integration in Europe, the combination of economic integration, financial integration and, not least, political integration. The second reason is the very strong policy response, which is very much related to the political integration. We saw a strong policy response in western Europe; we saw a good policy response in the countries in our region; and we also saw a very strong contribution from the international financial institutions, IMF helping in some key countries and the combined efforts of the international financial institutions like the EBRD.

Of course, integration exposes one. We saw that trade integration made the region vulnerable. The output declines we have seen certainly reflect that and also reflect financial integration. Here we again see the two sides: on the one hand, financial integration very much promoting growth and, on the other hand, helping to mitigate the impact of the crisis, with countries that had more foreign-bank presence seeming to have fared better in the crisis. It also highlights the role of foreign banks in creating vulnerabilities in the region. It seems clear that foreign banks contributed to the high debt levels, which in turn explained how much a country was affected by the global crisis. It seems that foreign banks had some role in fuelling credit bubbles and credit booms. Foreign banks seem also to have played a role in foreign-exchange exposures, which turned out to be a major vulnerability in the crisis. This suggests, looking forward, that when looking at the region, particularly central Europe and south-east Europe, we need to find ways of addressing the failures of this model without fundamentally changing it. The model has proved strong and important for promoting growth and for mitigating the impact of the crisis but there are aspects of it that we need to control.

Going further east, our experience is different. The focus here may be on Russia, which was hit by the international crisis through the impact on oil prices and commodity prices more generally. In addition, Russia was earlier than most other parts of the region, except for the Baltics and Kazakhstan, in experiencing the impact of the crisis and had to deal with the combined effect of having to adjust to a lower oil price and to the problems in the financial sector, which were to some extent of a domestic nature, such as a lack of transparency and a not fully reformed financial sector. These things have not yet played out fully in Russia. Although we predict negative growth of minus 8.5 per cent in Russia this year, we see a recovery in the last quarter of this year and we think there will be continued recovery next year, but it will be very reliant on the strong fiscal stimulus that Russia has had.

On the whole, I think we are very positive about the policy response in Russia in terms of how it managed to adjust to a lower oil price and how it dealt with the impact of the financial crisis by focusing on the role of the financial system and restructuring it rather than the government becoming involved in direct lending to the corporate sector. It is the combination of a policy response and the strengths or weaknesses of the integration in Russia, which had a much less reformed banking sector.

Let me add a comment on a matter which many of us were concerned about when the crisis hit, namely the impact on reforms and more broadly perhaps on the political system. Looking at that today, the impact has been less than we feared. The policy response in our countries of operation has, on the whole, been quite positive. We have not seen a lot of political turnover and, when there has been political turnover, it seems that the fundamental commitment to reforms has, if anything, been strengthened. Of course, we cannot guarantee that that will continue, but I think it is an important element.

It remains an open question whether the crisis will fuel further reforms. We certainly do not want to see this crisis being wasted. We think that there are a lot of lessons from the crisis that could have a very positive impact, particularly in countries that have not proceeded very far with bank restructuring, for example. There is an opportunity here for further reforms to be implemented in addressing the weaknesses of the European financial integration model and getting a grip on foreign-exchange exposures and on the role in building up debt levels in the region.

I shall stop there. I am happy to take questions. Jeromin will have the answers to questions that I cannot answer.

MR STEFAN WAGSTYL (Financial Times): When you say that growth in the medium term will now be slow and below the trend of recent years, do you mean that that is because global growth will be slow or do you mean that even the convergence element will be less than before? There is a big difference involved for the countries between the one and the other.

MR BERGLOF: I think one should probably distinguish between different factors, between the growth in the recovery phase, which we think will be very modest, for some of the reasons I have already alluded to, such as the problems in the banking system and the problem of getting financing to the real sector, the long-term growth potential of the region and its dependence on global factors and the model as such in the region. I was referring to the way the growth model will change. We hope that there will be a different model, keeping the role of financial integration but ensuring that this happens in a more sustainable way so that there are stronger capital buffers and less leverage in the system, which I think will, unfortunately, produce lower growth, but it will be a more sustainable growth. I think that that is the main reason why we made that remark. Of course, the region will continue to be quite vulnerable to global growth. Most of these economies are very open and integrate into the western European industrial structure.

MR STEFAN WAGSTYL (Financial Times): Perhaps I may follow that up. In recent years we have seen a roughly 2 per cent convergence, with these economies growing by 2, 2.5 and 3 per cent faster than western European economies. You think that that gap will in future be smaller?

MR BERGLOF: I think that that gap will probably be a bit smaller. Maybe Jeromin can say something on this. This convergence story is in no way over. There is still a very strong need for catching up, and that will help the region, once it is through this difficult recovery phase, to continue growing.

MR ZETTELMEYER: To make it even clearer, first, we do not think that convergence is over as a result of the crisis; convergence will continue. Secondly, we think there is a risk, as Erik said, that it will continue at a slower pace, so the 2 or 2.5 per cent may go down to a lower number, but still a positive number. Thirdly, any prediction on this will depend on what sort of reaction to the crisis the region undertakes. We think that it will be feasible to continue in the future with convergence rates similar to the ones experienced in the past, but it will require extra reforms. Part of the convergence that we have experienced in the past was the result of very rapid capital inflows and we generally see a tougher environment out there in that respect. The countries will therefore have to do more to reassure investors that they provide stable environments, that the boom-bust cycles of the past are unlikely to repeat themselves, that the FX lending problem will be under control, that reforms will continue, that the business environment will continue to improve – a whole list of things. I think it puts pressure on the region to do good things.

MR VITALY MAKARCHEV) (Tass News Agency): You speak about the social costs. What is your assessment of the level of unemployment in the region. In which countries do you see political instability? Do you see political turmoil next year?

MR BERGLOF: Unemployment varies tremendously across the region. We know that it has on the whole been increasing, although maybe not as much as we would have expected in some countries. For example, in Russia unemployment has so far had less impact than one would have expected, given the depth of the output decline. I think in some cases there is a delayed impact and we shall see increasing levels of unemployment throughout the region.

The second part of your question goes to the final remark in my opening statement. We have to date not seen major political impact in the sense of a change in the direction of reforms or reform-oriented governments being brought down due to rising unemployment. That does not necessarily preclude this from happening in the future and we probably should, as with any political system, expect high levels of unemployment to lead to governments having less support. I want to repeat that this is probably not so different in our region from, for example, in western Europe. We have seen similar turnover in many countries in western Europe, which are also vulnerable to high levels of unemployment.

MR VITALY MAKARCHEV (Tass News Agency): Could you give the figures for the region?

MR BERGLOF: I do not think we have an aggregate figure for unemployment for the region. Russia has, I think, 8.5. There are pretty high levels in Hungary. The Baltic countries are particularly affected and we should probably expect that to worsen, given the severe output decline in those countries. I can give you the exact numbers country by country afterwards. We have not aggregated them. I do not think it is really meaningful to aggregate the numbers for the region because there are such large differences across countries. We have probably not yet seen the impact in Russia but it is most likely that there will be quite a few lay-offs as a result of the output decline.

MS FIRDEVS ROBINSON (BBC World Service): I wonder if you could be a little more specific about the continuing commitment to reform? I was interested to hear you say that reform has not really stopped. Could you be a little more specific as to where you have seen continuation of this commitment? Could you give some examples of countries where the crisis has pushed them to take some of the most necessary steps that they should have taken?

MR BERGLOF: There are two parts to your question. One is whether the crisis has pushed governments into doing things that they would not otherwise do and the other is whether this has led to governments being removed from office and what the effect of that has been. As to the first part, I think there are many examples of changes that are happening now as part of the crisis. Take the Baltic countries, for example. Maybe the most extreme example is Estonia, where the whole political consensus has shifted towards implementing very strong fiscal reforms and trying to address what had been for some time not very sustainable levels. We see it in the other Baltic states, as well. Under the IMF-EU programme in Latvia we see massive changes, with fiscal retrenchment, and also affecting public services, and so on, because they lived above their means. As to examples of countries that had regime shifts, Bulgaria had a new government, which I think it is fair to say seemed to be, if anything, more committed to reform than the previous government. Certainly many areas are implementing things which we very much welcome. The record is not there; they have just begun. I think those two examples illustrate both points.

MR A. SWIDILSKI (PAP): Would you expand on the mid-term vulnerabilities of countries in central Europe, like Poland? What sorts of vulnerabilities have the crisis exposed, and which should be tackled as a priority? What should the governments do to support growth once the recession is over? Why is Poland likely to under-perform in the region next year? You say that it will grow by 1.8 per cent versus 2.5 per cent for the region.

MR BERGLOF: As to what vulnerabilities there are in Poland, these days Poland is mainly highlighted because of how well it has fared in the crisis. It is the country that, together with Albania, was probably the least affected by the crisis. There are many explanations for this. One is the size of the domestic market. Another is that there is a healthier fiscal policy and a healthier regulatory stance. But there were vulnerabilities, and there will remain vulnerabilities. It has substantial foreign-exchange exposures, though not as great as in some other countries. It now seems to have some problems on the fiscal side that it will have to address.

I have not emphasised this, but across the region we see a deterioration of fiscal positions, which is something that comes out of the crisis. In some countries it is dramatic. I cannot go through the impact on tax revenues, but for many countries the impact on import duties is very important. There is a dramatic fall in imports, particularly in countries that have depreciated their currencies.

Those two effects both mean that the fiscal situation generally has deteriorated across the region. Most of the countries entered the crisis with very strong fiscal balance sheets.

Coming back to Poland, to suggest what needs to be done, I think it needs to keep its eye on the fiscal situation and to continue working on how to address the foreign-exchange exposure. A lot needs to be done in terms of further developing local capital markets, realising that EU membership will probably not happen in the original time frame so there will be a longer period for markets for local currency to develop. All these things are very important for Poland.

Your last question was why Poland would under-perform next year. I do not think that is correct. Some of the numbers here reflect the very large declines that the countries had. Poland did not have this decline so sails through this at a reasonable pace, with a lower growth than pre-crisis, of course, but it will not have the rebound because it did not have the fall.

MR ZETTELMEYER: Perhaps I may make one point. If you want a measure of underlying performance in 2010, a much better measure than the 2010 average growth number here, which is in effect a combination of the big drop in 2009 and the return in 2010, the last column of our forecast table gives growth within the year 2010. There you see that we project growth in Poland to be 2.1 per cent, which is in fact one of the highest in the region. Within the CEB countries there are only two others which we think will do slightly better.

MS AGNESZ LOVASZ (Bloomberg News): I have two questions. I read in the release that you would expect a subdued pace of export market recovery. Are these countries wrong to count on an export-led rebound? You still expect rising NPLs, corporate bankruptcies and unemployment. When do you think that will stop? In which sectors do you expect corporate bankruptcies to happen?

MR BERGLOF: I shall start with the second question. This is something that cannot be answered in general terms. Maybe I have not sufficiently emphasised the variation across the region. We have talked about Poland but we also mentioned the Baltic States. Ukraine is also on the poor performing side. Any statements about when unemployment and corporate bankruptcies will peak will depend on which country you are looking at. As I said in reply to the question on unemployment, I am quite pessimistic about the prospect for any quick peak in unemployment in the Baltic States and in Ukraine. Making general statements on that is probably not very meaningful.

On your first question, I do not want to sound too negative. Some countries will definitely benefit. A combination of the depreciation of their currencies, the very recent vintage of their production structure and the foreign direct investments in particular in the region will help their recovery. In particular, the central European countries will benefit from this. We are still very concerned about the lack of lending in the financial and banking sector, which will constrain the rebound. Depending on how pessimistic you are about the growth prospects in western Europe, that is certainly something that will have a major impact on these countries that are poised to benefit from this. If there is no rebound in western Europe, there will be no rebound in eastern Europe, either.

QUESTION: Some countries, like Hungary, Latvia and Lithuania, are still in negative growth for the year 2010. When do you expect those countries to come out of recession and return to positive growth? Secondly, are you concerned about devaluation or the pegging of some currencies in the Baltic countries?

MR BERGLOF: It is hard enough to make forecasts for 2010; going beyond that is even riskier. There is no easy way out for a country like Latvia. The prospects for growth in the next three or four years are not very great. It does not have an export sector that can respond to demand outside; it has had a very difficult and painful internal adjustment because it has stuck to its currency peg. Will we see these pegs being left? My projection is that this will not happen. The choice between sticking to a peg and not sticking to it is a very difficult one. Both imply very costly adjustments. They may differ in timing perhaps but they imply major sacrifices from the population. Latvia has chosen to stick to its peg. It is firmly ingrained in the Latvian political system; it has been supported by the IMF and the European Union, and I think it will continue.

MR ALEXANDER SMOTROV (Ria Novosti News Agency): My question concerns methodology. In some countries you have a quite significant revision, correlations like Armenia or Lithuania. Was it a question of calculations, or were there any outside factors that contributed by deteriorating more than you had envisaged?

MR BERGLOF: Perhaps Jeromin can give you some details. Most of the changes from May till now are about new information for the first and, to some extent, the second quarter. In particular, when the actual data came out for the first quarter it turned out to be worse than expected. Armenia is an example of that. Do you want to say more, Jeromin? Is that a fair statement?

MR ZETTELMEYER: That is right.

MR BERGLOF: When we come out with a lower number for this year’s growth – and by now we are pretty certain about the number because we are so far into the year – it reflects not what happened in the third quarter, to some extent what happened in the second quarter, but particularly what turned out to have happened in the first quarter. The new information has led us to be more pessimistic about the growth for the year as a whole.

MR ZETTELMEYER: Armenia turned out to have the biggest Q2 quarter-on-quarter output decline of probably any country in the region. That came as a surprise, and that is why there is a big revision.

QUESTION: I have a couple more questions, if I may. First, I wonder what you think about the Shanghai Corporation Organization’s expressed plan to help some of the countries of the region which are members of your Bank, as well. Secondly, how did EBRD fare in this crisis period?

MR BERGLOF: I do not have a lot to say on the first question. In general, as to the contributions to some particular countries that are closest – I think it is Central Asia in particular that they have an interest in – it depends on the form the assistance takes. I guess that that is where we have some concern that some of the ways in which these funds have been channelled into the region in the past have not been sustainable, being very much through wholesale transfers. I think the experience there is not altogether positive.

As to how the Bank has fared, you are the judge, but I think what really comes out of the experience of the crisis is that there is a need for an institution that takes a regional perspective, that looks at the spill-overs between countries and that looks at the private sector role in the crisis. We should remember that much of the crisis was a private sector crisis. Debt levels that built up were, with very few exceptions, in the private sector. It was difficult for some of the other international institutions to deal with the private sector. It is, by design, difficult for the IMF to deal with that aspect of the crisis. The role that EBRD played in coordinating the efforts of the other IFIs, its role in working with the banks active in the region in ensuring that there was an orderly deleveraging in the region, not a run for the exits, its role in supporting key restructurings in the region and in providing capital to the key banks active in the region, both foreign and domestic banks, and in some cases banks that were in deep trouble, hopefully leaves the Bank stronger and with a different role. In addition, the relationship between the international institutions has dramatically changed as a result of the crisis. I think it opens up tremendous prospects for working together in addressing some of the policy challenges that I listed earlier in terms of building local capital markets and pushing through regulatory reform. There are a lot of issues on which there is now much more hope that we can work together and achieve positive outcomes.

MR WILLIAMS: If there are no further questions, thank you very much for coming. If you need the press releases on individual countries in which you are interested, please ask the Press Unit and we shall provide them for you while you are still here. Thank you, Erik; thank you, Jeromin.