The Hangover after the Party Eastern Europe's Economic Crash
The global downturn has hit Eastern Europe with particular vengeance. Countries that profited more than many others from globalization and were previously capitalism's rising stars are now seeing demand for exports collapse, along with their currencies. They are bracing for a hard landing.
Ryszard Delewski is a businessman on the verge of bankruptcy. After spending anxious months worrying about the future of his company, it seems to be all over.
Delewski was meeting with a customer in Minsk, Belarus when the telephone rang and the crisis hit home. His bank was calling to inform him that his company, Delkar, was in the red to the tune of 4 million zloty, or about 850,000 ($1.1 million). The amount had accumulated because Delewski had used foreign exchange options to hedge against an appreciation of the zloty. But now the Polish currency had lost almost a quarter of its value against the euro. And no one had explained to Delewski that, if this happened, he would owe compensation payments.
Each month the 150 employees at Delewski's plant, near the central Polish city of Kielce, stamp 250 tons of sheet metal and aluminum into gutters, lightning rods and other building elements. About half of the finished products are exported to France, Portugal, Germany and other European Union countries, while the remainder is sold in Poland. "Exports have declined sharply in the past few months. But that alone would not have finished us off," says Delewski.
Given the magnitude of the current crisis, he can understand that demand for his products in the West is down. But why the zloty is falling and why he suddenly owes money is a mystery to him. "We Poles work hard," he says. "Our products are as good as those in the West, and we service our loans." Delewski feels taken in by his lender, Millennium Bank.
After joining the EU, the Baltic countries in particular made enormous progress in catching up with their Western neighbors, sometimes growing at double-digit rates. Romania, a latecomer to the EU, recorded the largest number of new registrations of Porsche Cayennes worldwide in 2008. In downtown Warsaw, the Stalin-era Palace of Culture and Science, once the city's only skyscraper, disappeared behind new steel-and-glass office towers within the space of a few years. The Czech Republic still enjoyed almost full employment in 2008.
Now the once-booming Eastern European economy has ground to an abrupt halt. The worldwide economic crisis, which began with the bursting of the real estate bubble in the United States, is now making itself felt in the former communist countries. And it is hitting them with more force and more quickly than the newcomers to capitalism, spoiled by success, had expected.
The Estonians, Latvians and Lithuanians, who for years could enjoy growth rates of between 7 and 10 percent, must resign themselves to the fact that their economies are shrinking. Hungary has already tapped the International Monetary Fund, the World Bank and the EU for 20 billion ($27 billion), and Romania will need just as much. In the fourth quarter of last year alone, the Poles produced 5 percent less than in the same period in 2007. In the Czech Republic, unemployment has risen to 12 percent.
Is it now up to the Western European countries, which already have their hands full dealing with the worst economic crisis since World War II, to pay Eastern Europe's bills? On the other hand, what happens if no one helps? Could the crisis in the EU's new member states jeopardize the cohesion of the union as a whole? One thing is clear: Western Europe cannot simply abandon the new member states to their fate.
Aid for the East was one of the key topics of discussion at the EU summit in Brussels late last week. At the suggestion of the European Commission, an emergency loan fund for distressed members that have not yet joined the euro zone was increased to 50 billion ($68 billion). Commission President José Manual Barroso called the decision a "signal of strong support."
Graphic: Economic slowdown in Eastern Europe
The view in the East is that the onset of the world economic crisis has suddenly reversed globalization. Hundreds of thousands of Poles, Bulgarians and Romanians had found relatively well-paid jobs in western EU countries, but now an army of migrant workers is making its way back home to the East. At the same time, the capital the region so desperately needs is flowing in the other direction, as Western banks and investors pull out their money.
The fact that the crisis in the West is now pulling down the East is largely attributable to a single mistake. For years, Eastern Europeans took out loans denominated in euros, Swiss francs and Scandinavian kroner. The loans stimulated domestic consumption and allowed the economies to grow. Many new member states imported more goods than they exported. Now the mountains of debt are high, and the current account deficits of countries like Lithuania and Bulgaria are a massive 15 percent of GDP.
Capital flight and declining demand from the West have pushed down exchange rates. The currencies that are not pegged to the euro have experienced particularly drastic slumps in value. In the last six months, the Romanian leu lost more than 16 percent of its value and the Hungarian forint close to 20 percent. Private citizens and even governments can no longer service their foreign-currency loans.
Massive bankruptcies in the East are now affecting the reckless lenders in the West, which also happen to control about 70 percent of all banks in Eastern Europe. Austrian banks alone have outstanding loans in Eastern Europe worth 293 billion ($396 billion). Thomas Mirow, the president of the European Bank for Reconstruction and Development in London, expects that up to 76 billion ($103 billion) in Western loans will come due this year in EU members in Eastern Europe and Ukraine. Concerns about the creditworthiness of Eastern businesses could deter cash-strapped Western banks from issuing loans for investments. According to Mirow, a vicious circle is developing as Eastern European economies run out of steam and the crisis gains momentum.
At any rate, it will not be possible to fulfill the promise of the revolution of 1989 -- freedom and prosperity for all Europeans -- as quickly as promised. Instead, citizens in the new EU member states can expect to see their wages stagnate at lower levels compared with those in the West, assuming they have not already been cut drastically. In addition to mass layoffs, ailing Eastern European business owners have resorted to wage cuts of up to 30 percent in recent months. And someone who is out of work in the east quickly finds him- or herself in a very tight spot. Governments are out of money, and social services were cut back in many places during the boom years.
- Part 1: Eastern Europe's Economic Crash
- Part 2: From Boom to Bust