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CEEMEAnomics Summary - 18 June 2014

Core Content

This report provides an overview of economic developments and political issues in the Central and Eastern Europe and Middle East (CEEMEA) region, focusing on Poland, Turkey, Ukraine, and South Africa. It highlights the impact of geopolitical events, monetary policy responses, and domestic political turmoil on these economies.

Main Themes and Key Points

1. Iraq Impact and Oil Prices

• The initial impact of events in Iraq on CEEMEA economies has been limited.
• Oil prices have increased slightly due to uncertainty over future production.
• The lack of disruption in southern Iraq and the potential for Saudi Arabia and IEA to stabilize prices has contained the impact.
• Any escalation in the conflict could affect countries with strong trade links to Iraq, particularly Turkey, which is the second-largest export destination.

2. Turkey: Rate Cuts and Exchange Rate Stability

• The Central Bank of the Republic of Turkey (CBRT) prioritizes exchange-rate stability over interest-rate stability.
• Despite currency weakness, the CBRT has not yet injected liquidity, suggesting caution.
• The swap market is pricing in a 125bp rate cut within two months, but the bank is expected to proceed with 50bp cuts gradually.
• The CBRT is expected to cut its one-week repo rate by 50bp to 9.00% at the next MPC meeting.
• The government reported a primary surplus of TRY 8.6bn in May, but non-interest spending growth is outpacing fiscal targets.
• The 2014 fiscal deficit target of 1.9% of GDP is likely to be missed, with a projected deficit of 2.9% of GDP.

3. Poland: Economic Sensitivity to the Eurozone

• Poland's GDP growth is highly sensitive to developments in the eurozone.
• A 1pp increase in eurozone GDP growth lifts Polish GDP growth by 0.5pp after 12 months.
• A 100bp rise in Polish interest rates would lower GDP growth by 0.7pp and reduce CPI inflation by 0.2-0.3pp over 9-12 months.
• The PLN nominal effective exchange rate (NEER) would rise by around 1.5% in the long term due to a 100bp rate hike.
• A 1pp increase in CPI inflation would slow GDP growth by 0.3-0.4pp after a year.
• The Polish central bank is expected to keep rates on hold in 2014 and begin hiking in Q2 2015.

4. Political Scandal in Poland

• A secretly recorded conversation between the Interior Minister and the NBP Governor has led to a political crisis.
• The NBP Governor did not resign and received support from the MPC, but the incident has clouded the political outlook.
• The main ruling party (PO) faces declining support, and prolonged political instability is expected.
• The political crisis may lead to increased market volatility and could affect the central bank's policy stance.

5. South Africa: Ratings Downgrade and Political Uncertainty

• South Africa's ratings downgrade by S&P and Fitch was anticipated due to political risk and poor industrial relations.
• Political risk was a central factor in the agencies' negative assessments.
• The platinum strike settlement is in the offing, but the union has made further demands, prolonging the crisis.
• The current account deficit narrowed to 4.5% of GDP in Q1, but this is unlikely to be sustained due to the ongoing impact of the strikes.
• Inflation in South Africa rose to 6.6% in May, raising concerns about the central bank's ability to control inflation.
• President Zuma's speech did not provide clear policy direction, and his emphasis on socio-economic transformation did not offer substantial new measures.

Key Information

• Iraq: Limited impact on CEEMEA economies, but oil prices have risen due to uncertainty. Turkey is particularly affected due to its trade links.
• Turkey: CBRT is likely to continue 50bp rate cuts as long as the TRY remains stable. The government's primary surplus in May is positive, but fiscal targets may not be met.
• Poland: Economic growth is closely tied to the eurozone. Political instability is likely to persist, with potential for a change in government by 2015.
• South Africa: Ratings downgrade reflects political and economic challenges. The platinum strike and poor industrial relations are key concerns. Inflation and current account data highlight ongoing issues.

Conclusion

The report underscores the interplay between geopolitical events, monetary policy, and political instability in shaping economic outcomes across the CEEMEA region. While some economies like Poland and Turkey show resilience, others such as South Africa face significant challenges from both political and economic factors. The central banks in the region are navigating these uncertainties with cautious policy adjustments, highlighting the complex environment in which they operate.