Growth in Central and Southeastern Europe (CESEE) will be 1 percentage point (pp) lower than expected in January because of the war in Ukraine and the imposition of new sanctions on Russia, the Vienna Institute for International Economic Studies (wiiw) said in its spring forecast.
The economic think-tank said that the CESEE region expanded by 6.3% last year, 1pp faster than the euro area, representing a strong rebound after it contracted by only 2.1% in 2020 compared with a plunge of 6.4% in the euro area because of the coronavirus (COVID-19) pandemic.
The 2021 growth meant the region exceeded the pre-pandemic level of 2019 by 4.1pp, with 17 of the region’s 23 countries registering recovery stronger than the decline of 2020. Only Montenegro, Bulgaria, North Macedonia, Ukraine, Czechia and Slovakia have yet to exceed their pre-pandemic GDP levels.
In its new baseline scenario, which assumes a mid-year ceasefire in the war, the wiiw predicts average growth of around 3% this year, with the most pronounced slowdown in Turkey (8.3pp), where last year’s credit boom has already run into balance-of-payments constraints, and the Western Balkans (4.5pp). There are big downward growth revisions in Romania, Bulgaria and the Baltic states, which are more vulnerable both to disruption in trade with Russia and to geopolitical risks.
Trade disruption will cost most CESEE economies some 0.5pp of GDP growth this year, it says. For instance, the automotive industry is already suffering on account of a shortage of car components (many of which come from Ukraine) and the large-scale, voluntary withdrawal from Russia of Western car manufacturers.
However, it warns that risks are clearly “tilted to the downside” and in its adverse scenario – which assumes the West imposes oil and gas sanctions on Russia, leading to a doubling of energy prices in 2022 – growth will average just 0.1%, with half of the countries in the region plunged into recession.
Outside the CIS and Ukraine, recessions would likely to be deepest in Hungary, Slovakia and Turkey, reflecting their heavy dependence on Russian gas and the limited short-term possibilities for its substitution. Turkish growth is 2.7% in the basic scenario but there would be a 2.5% recession in the adverse one.
In this scenario, soaring energy prices will be felt everywhere, pushing inflation into double-digit territory. Turkey’s inflation rate is expected to rise to 55% even without an energy embargo, and to 67% if an embargo is introduced.
There would also be a rise in risk premiums, and confidence and investment would fall across the region. Economic sentiment in CESEE already weakened considerably in March, with the Western Balkans being worst affected because it is seen as politically fragile.
Recession in Russia; collapse in Ukraine
For Russia, the wiiw predicts a 9% decline in GDP this year – an 11pp downward revision to its previous forecast – or a plunge of 15% in its adverse scenario.
The economy will also decline 1.5% in 2023 before recovering by 1% in 2024. Inflation would be 20%, or 28% in its adverse scenario.
Thanks to wide-ranging capital controls and monetary policy tightening, financial stability has been restored, the wiiw says, and the ruble has recovered to nearly pre-war levels.
"Even if the EU were to impose an energy embargo, the financing of the war would probably only be jeopardised in the medium term: however hard it might hit the economy, the Russian government has the reserves and the fiscal leeway," argues Vasily Astrov, senior economist.
However, as also argued by EBRD chief economist Beata Javorcik this week, the full effect of trade sanctions has yet to unfold and, along with the withdrawal of many foreign firms, this will hamper long-term growth prospects.
“Already we see that there are supply-chain problems in many sectors because of the sanctions,” said Astrov. “That, together with the withdrawal of many Western companies, for example in the car industry, is hammering industrial production.”
Production levels in the automotive industry have so far plummeted by 50%, compared to last year. Some 600 Western firms have announced that they are pulling out of Russia.
"Even with a ceasefire and a political solution, a strong recovery is unlikely to get underway until 2024, since private investors will probably be slow to return to the country," says Astrov.
In a webcast to present the results, Astrov was even gloomier about Russia’s long-term prospects, saying “Russian GDP will grow by 1% if at all long term”.
He was also pessimistic about Russia being able to substitute trade links with China and India for those with the West. “The technology that Russia needs comes from market leaders in advanced countries,” he pointed out.
In Ukraine, the wiiw says that those Ukrainian regions that have been directly affected by the war account for 53% of GDP, 43% of industrial production, 34% of agricultural production and 50% of goods exports. More than a quarter of the population has been displaced as of mid-April, with 6.4mn refugees leaving the country and an additional 7.1m internally displaced.
The country is poised for imminent economic collapse, with its economy projected to shrink by 38% this year in the baseline scenario (which assumes a ceasefire from the middle of the year and the start of reconstruction), or by 45% in the adverse scenario. The wiiw’s downward revision to the baseline scenario is 41.5pp.
The war will wreck the government budget – with the fiscal deficit projected to balloon to 25% of GDP this year – and it will have to be largely covered by Western official assistance.
The wiiw predicts a gradual recovery in 2023, accelerating in 2024, assuming the West provides a large-scale assistance package akin to the post-WWII Marshall Plan. In 2023 the wiiw forecasts that Ukraine’s GDP will grow 5%, before surging by 13% in 2024.
The IMF this month predicted that Russian GDP would fall by 8.5% this year, while Ukraine's would collapse by 35%. Earlier this month the World Bank forecast respective declines of 11.2% and 45%. Capital Economics has predicted Russian GDP will shrink by 12% and that Ukraine’s economy could halve. At the end of March the EBRD predicted a fall of 10% in Russian GDP, and 20% in Ukraine’s economy.
Wiiw forecasts (baseline scenario)