The three countries have seen an explosion of credit fuelled by property speculation over the past decade, while current account deficits have soared to among the highest in Europe. In Estonia, domestic and foreign debt stands at twice the country’s GDP, leaving it heavily exposed to the problems of bad debt that have beset the global financial system. Property prices in the capital Tallinn, have fallen by one quarter since 2007 and home foreclosures are on the increase.

“There are going to be some pretty big casualties in property-related sectors and retail,” warned Joakim Helenius, head of Tallinn based investment group Tigon Capital.

In Latvia, the central bank had to intervene this month to prop up its currency with public funds. The cost of bailouts, combined with falling domestic tax and customs revenues, mean that all three states are likely to suffer large budget deficits next year. The Latvian Central Bank estimates its government’s overspending to be 5.5 percent of GDP in 2009.

This will force government borrowing, bringing with it demands from international lenders that state budgets be slashed. The EU budgetary commissioner has already condemned Lithuania’s draft budget for 2009 as far too high and has demanded that President Valdas Adamkus refuse to sign it into law.

Meanwhile, the increase in government indebtedness of these tiny countries, with limited resources to draw upon, will likely restrict investor confidence, further deepening recessionary pressures.

The banking sector in the Baltic states is dominated by Scandinavian capital. Swedish company Swedbank has seen a 50 percent fall in its share value, largely due to its heavy exposure in the Baltic countries, while its credit rating has been slashed. Swedbank expects profits from its Baltic subsidiaries to be cut in half in 2009. Swedbank maintains it and other banks will continue to pump credit into the Baltic markets in order to prevent an economic crisis there from spreading into Scandinavia.
Poland, Slovakia and the Czech Republic

Bulgaria and Romania, who joined the EU in 2007, are also in a highly precarious position. Citibank’s evaluation cited their high vulnerability to financial instability. Bulgaria already has a national deficit of 21.5 percent of GDP. This figure is likely to rise as Hungary borrows from international lenders such as the European Central Bank and the International Monetary Fund to save its banks, and the government itself, from insolvency.

Poland, Slovakia and the Czech Republic are widely portrayed as being in a better position than most other states in the region, with less dependence on loans from foreign finance capital. They are, however, highly dependent on direct investment from transnational corporations and sales of manufactured goods and services to Western Europe.

The three countries have become major centres of manufacturing for the EU market, with the Polish and Czech economies booming from the development of plants making cars, electrical equipment, household goods and industrial plant largely for sale to Western Europe. Slovakia has become a virtual single auto-industry state, with the major automobile manufacturers closing factories in Western Europe and relocating tens of thousands of jobs there in an effort to slash wages.

While the foreign direct investment (FDI) that Poland, Slovakia and the Czech Republic are heavily reliant upon, is due to rise modestly to $90 billion across Eastern Europe in 2009, this figure represents a small fraction of total investment capital which has sharply contracted. FDI could freeze up next year if cash strapped companies hoard their resources in the event that global finance credit remains in limited supply.

With exports of commercial and domestic manufactured goods to Western Europe likely to fall over the coming period, combined with greatly restricted credit, even the relatively stable economies of the ex-Soviet region are likely to be plunged into recession.

Shares on the Polish stock exchange are trading at less than half their peak. Poland has mirrored the steps taken across the EU, pouring public money into a bailout of its banks.
Ex-Soviet regime

To the east of the EU member states, the situation could prove to be even worse. Russian authorities have set aside nearly $200 billion (€149 billion) for a financial market rescue. Despite the relatively small size of its financial sector, which has assets valued at just 65 percent of its GDP (compared to 250 percent of GDP for banks in the euro zone), the country is highly dependent on foreign finance capital to fuel growth.

  • A d v e r t i s e m e n t

Over the past decade hundreds of small banks have emerged, fuelled by debt borrowed from major Western financial institutions and used to pay for developments in certain industries and construction in the booming property sector in Moscow and other large cities.

The Medvedev-Putin regime in Russia has injected $700 billion into its financial system, a greater amount than the United States or most western EU states as a portion of GDP. This massive increase in state spending has been made even more dangerous to the Russian public finances by the sharp fall in the price of oil, which has halved from its peak earlier this year.

A similar story is taking place in Ukraine, where foreign finance has been heavily relied upon to boost growth in industry and commercial property construction. Like Russia, the Ukrainian economy is now faced with the double blow of greatly restricted access to Western finance combined with plummeting prices for its main industrial exports, especially steel.

The Ukrainian stock market has lost over three-quarters of its value in a year.

Ukraine’s central bank has been forced to prop up most of the country’s financial institutions with state funds, while a run on the country’s sixth largest bank, Prominvest, was caused by warning that it was likely to collapse.

The possibility of providing a stimulus to the Ukrainian economy by cutting interest rates, as has been put into effect across Europe and in the US, is limited by the fact that inflation is currently running at 25 percent. The Ukrainian Prime Minister, Yulia Tymoshenko, has requested a large loan from the IMF of up to $14 billion to shore up the economy.

US credit ratings agency Fitch downgraded Ukraine last week, stating:

“The downgrade reflects Fitch’s concern that the risk of a financial crisis in Ukraine involving large depreciation of the currency, further stress in the banking system and significant damage to Ukraine’s real economy is significant and rising.”

Tymoshenko is in a bitter political struggle with President Viktor Yushchenko, who has called early parliamentary elections for December in an effort to unseat his rival. Both former leaders of the “Orange revolution” are blaming each other for Ukraine’s economic woes. Tymoshenko has condemned the calling of fresh parliamentary elections, the third in three years, as a destabilising factor in the current economic crisis. She warned that all politicians must put aside “political ambitions” in an effort to bail out the economy at the expense of other areas of budgetary spending.

“We have to revise the state budget for the year 2008, and completely alter the draft state budget for 2009, because the whole world, and Ukraine as well, will see a certain stagnation of production, a certain fall of GDP growth, and, I think, the country will suffer the biggest blow in 2009. It means we have to transfer to a saving budget in 2008 and 2009,” Tymoshenko told the Ukrainian parliament on October 13.

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