Magazine article Global Finance

Living on the Edge

Magazine article Global Finance

Living on the Edge

Article excerpt

The EU's newest members struggle to balance growth with stability.

Despite recent political maneuverings by Russian president Vladimir Putin, which have led some to speculate that a return to Cold War politics in Europe may be at hand, the prospect of EU enlargement has drastically altered the political and economic landscape in Central and Eastern Europe (CEE).

Even when former Soviet leader Mikhail Gorbachev announced his perestroïka reforms back in June 1985, which introduced private ownership of formerly state-owned enterprises and permitted foreign investment, few could have anticipated the far-reaching impact it would have. Gorbachev's structural reforms planted the seeds that ultimately lead to the dissolution of the Soviet Union in 1991.

No longer able to rely on financial support from the Soviet state machinery, a number of former Soviet republics embraced their newfound nationalism and freedoms to implement economic, political and social reforms that were more in line with capitalist and democratic principles. Renewed political and economic zeal lead to the election of leaders such as Lech Walesa to the Polish presidency in 1990, which inspired a new generation of reformists including the Czech Republic's Vaclav Havel, Estonia's Mart Laar and Slovakia's Mikulas Dzurinda, who embraced the principles of a free market economy and flat taxes in an effort to boost their fledgling economies and attract investment.

Joining NATO in the early 1990s symbolized these countries' pursuit of democratic and free market principles, and a decade later they entered the ultimate club, the European Union, which admitted the Czech Republic, Hungary, Poland, Slovakia, Slovenia and the Baltic countries (Latvia, Lithuania and Estonia) as members on May 1, 2004, in its largest-ever intake.

Although the accession countries contributed no more than 5% to total EU GDP, EU entry symbolized new opportunities for them in terms of increased foreign investment, more liquid capital markets and higher disposable incomes. "EU accession contributed significandy to balanced economic development, high growdi and reduced inflation," observes Rainer Singer, research analyst with Erste Bank."It [EU membership] also triggered FDI inflows, which improved the macro picture of these countries and some of the legal frameworks that were implemented." This was a much different scenario from that of the early 1990s, he says, where despite early economic reforms preceding the fall of the Iron Curtain, growth rates were unbalanced, inflation and foreign trade deficits were higher, and domestic production could not keep pace with demand.

Debora Revoltella, CEE chief economist at UniCredit Group, underscores the importance of EU convergence as a trigger for improving legal and judicial processes within CEE, which helped countries such as Poland and Slovakia establish themselves as low-cost production centers in the high-tech and automotive sectors. Large-scale privatizations such as the issuing of shares in Poland's second-largest bank, PKO Bank Polski, and national telecom company Telekomunikacja Polska proved too alluring for foreign investors to ignore. Of the record amount of net FDI Poland attracted in 2000 ($9.3 billion), $4 billion was accounted for by income from sales of Telekomunikacja Polska. By the end of 2002, Poland led Central Europe, attracting more than $65 million in FDI.

Today, Central European countries continue to enjoy high levels of FDI. "There is quite a high level of FDI going into the Czech Republic and Slovakia, particularly greenfield investment in the expanding telecom and banking sectors," says Gintaras Shilzhyus, a CEE analyst with RZB. Most of the indigenous banks now within Central Europe and the Baltic countries are foreign controlled. "International banks will continue to play a significant role in CEE, targeting the region as a market for growth," says Federico Ghizzoni, UniCredit Group's head of Poland's market division. …

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