Transition Countries in 2002: Losing Steam

After satisfactory performance of the transition countries in 2000, growth slowed down in 2001 as the external conditions deteriorated. This tendency has not been checked in the first quarter of 2002. Industrial production has weakened, in some countries even declined. Expanding consumption has been the major growth factor. Also capital formation weakened, or contracted. This does not augur well for economic growth in the medium-term future. The contribution of foreign trade to GDP growth seems neutral - excepting the Czech Republic and Hungary (probably positive). This is due to external conditions weak growth in the EU. Lower world prices of energy had a negative impact on growth in Russia. The current account deficits in the advanced transition countries will remain relatively low (and the high Slovak deficit is expected to go down). In Yugoslavia the high current account deficits will continue. The Russian current account surplus, which is declining sharply, will still remain very large. Current account deficits will continue to be financed largely, and safely, by inflows of foreign direct investment. The slowdown of industrial production and producer prices affects firms' financial position. This is compensated by rising labour productivity, achieved primarily through cuts in employment. Unemployment is high, or very high. It is unlikely to go down significantly even in the medium run. However, the associated social problems will probably have no destabilizing political consequences (except Poland). The remarkable strength of the national currencies appears to have a fairly limited impact on the performance of trade and production. The recent exchange rate trends may have reflected financial (or even speculative) developments so that a potential for adjustments, involving devaluation, may be there. But the likelihood of major adjustments seems rather small because the solid capital inflows will continue even in the medium term, especially in view of prospective EU membership of the candidate countries. The general concern over loss of competitiveness due to overvaluation remains still valid. However, alternative measures of real appreciation suggest that the currencies of the transition countries may actually have been depreciating in real terms. Competitiveness need not have suffered - the more so as the process has been associated with quality and price gains in export activities. Given the external conditions, the overall growth in transition countries in 2002 will be weaker than in 2001. Acceleration in 2003 is possible provided the business climate in the EU improves. The average rate of catching-up vis-à-vis the EU will stay at about 2 percentage points per year.