With all the anxiety generated by the troubles of Portugal, Greece and Ireland, it is easy to forget that a different part of Europe was in the spotlight two years ago, facing equally dire predictions of bank runs, fiscal ruin and devaluation.
Today, many economies in emerging Europe are quietly staging a strong comeback. Most impressive is the turnaround in the three Baltic countries, which suffered record deep recessions in the wake of the 2008/09 financial crisis. Take Lithuania, which grew an eye-catching 14.7 percent in the first quarter of 2011. But many other countries in the region are seeing strong growth as well.
True, it will take a while before most crisis-hit countries will be able to reclaim the economic output that was lost as a result of the crisis. But things are definitely going in the right direction. Most encouragingly, the growth pattern is very different from that in the years leading up to the crisis.
- During the boom years, emerging Europe grew rapidly, but growth in many countries was unbalanced -- real estate, construction and banking boomed while manufacturing languished. Capital inflows were large, but they boosted demand rather than supply, and led to a surge in imports, extremely high current account deficits -- 25 percent of GDP in Latvia and almost 30 percent of GDP in Bulgaria -- and overheating.
- Markets at work. During the boom years, real estate, construction and finance were very profitable -- much more so than manufacturing. But profits were artificially inflated by asset price bubbles and the under-pricing of risk. Now that profits have evaporated, investors are moving into other sectors. The adjustment is underpinned by improving competitiveness -- the wage explosion of 2007-08 has given way to a decline in labor costs across the region.
- Good structural policies can raise growth potential. A big push to remove bottlenecks in energy, transportation and communication would boost productivity. Here, funding from the European Union could be used to overcome the current lack of domestic resources. Efforts to upgrade the skills of the labor force would enable industry to climb the quality ladder.
From iMFdirect blog