BA-CA analysis:
Investments replace consumption as engine of growth in CEE

  • Private consumption was the mainstay of economic growth in 2003
  • Investments will drive growth in the accession countries in 2004/2005
  • EU assistance provides support, strong effects expected from 2005 onwards

Although 2003 was a difficult year, the economies in Central and Eastern Europe performed well. In the middle of the year, investments started to recover and they are now increasingly driving economic activity. For the eight new EU members, Bank Austria Creditanstalt's economists expect economic growth to accelerate from 3.6 per cent in 2003 to 3.9 per cent in 2004 (table 1). "A positive factor is that growth in 2004 will be accompanied by an increase in investments, which means expenditure for the future," says Marianne Kager, Chief Economist of Bank Austria Creditanstalt. The upturn in investments will be supported by the availability of EU structural assistance in the total amount of about EUR 23 billion in the coming years.

Growth in 2003 driven by consumption
After a rather weak start in 2003, economic growth accelerated significantly towards the end of the year. The strong economic performance of the Baltic states (growth of 4.4% in Estonia and 7.5% in Lithuania) pushed up the average.

Overall GDP growth in the five countries in Central Europe – the Czech Republic, Hungary, Poland, Slovakia and Slovenia – was lower, reaching 3.3 per cent in 2003. In Hungary and Slovenia, GDP growth fell to long-time lows of 2.8 per cent and 2.4 per cent, respectively. In both countries, the sluggish EU markets had a negative impact on foreign trade. The growing momentum of private consumption in Slovenia and the sustained strength of private consumption in Hungary have been unable to fully offset this dampening effect.

GDP growth slowed down in Slovakia, too. Nevertheless, in 2003, the country's economy grew at a respectable rate of more than 4%. In contrast to Slovenia and Hungary, economic growth in Slovakia was supported by a favourable trend in exports. Slovakia's market share gains resulted from foreign direct investment, primarily in the automotive industry.

Economic growth in the Czech Republic rose to almost 3% in 2003, mainly supported by private consumption. Poland, the region's heavyweight, achieved considerably stronger growth. According to estimates by Bank Austria Creditanstalt's economists, the GDP growth rate rose from a modest 1.4% in 2002 to a strong 3.6% in 2003. The main contributions to this improvement came from private consumption and export growth.

Growth in 2004 and 2005 will be driven by investments
For the new EU members, Bank Austria Creditanstalt's economists expect investment growth to accelerate from 2.1 per cent to 6.7 per cent in the current year. In 2005, investment growth is expected to reach almost 8 per cent (table 2).

An important factor for the development of investments in Central and Eastern Europe is the investment behaviour of large international companies. "Less on account of the large volume than because of their trigger impact and multiplier effects," says Marianne Kager. "As multinational companies expand their presence, the CEE economies participate to a disproportionately large degree in the global upturn in investments. This will result in higher growth rates also in the longer term," Marianne Kager adds.

Bank Austria Creditanstalt's economists expect that economic growth in the new EU member states will increase to an average of 4 per cent in 2004 and 2005, boosted by the improvement in the global economic climate and its impact on investments and on foreign trade in the region. The Baltic states will remain the growth leaders, with growth rates of between 5 per cent and 6 ½ per cent. Poland will be the most dynamic economy in Central Europe, with GDP growth of over 4 per cent. From the current year onwards, economic growth will probably exceed the 3 per cent level also in all other countries in this region.

EU structural assistance will give additional boost to investments
"The upturn in investments will be supported by the availability of EU structural assistance in the total amount of about EUR 23 billion in the coming years," says Marianne Kager. According to calculations by Bank Austria Creditanstalt's economists, EU assistance corresponds to 1.7% of the region's annual GDP. Since the beginning of 2004, the future EU member states have been able, pursuant to the enlargement treaties, to make use of the benefits offered by the Structural Funds and the Cohesion Fund.

Of the total amount, some EUR 15 billion is made available through the Structural Funds, partly for regional aid. About EUR 8 billion is made available through the Cohesion Fund for infrastructure financing in the areas of transport and environmental protection.

Poland, which accounts for over 50% of the total population of the countries included in the current enlargement round, will benefit most in absolute terms, with assistance totalling almost EUR 12.5 billion, followed by Hungary with EUR 3.1 billion and the Czech Republic with just under EUR 2.5 billion.

This means that about EUR 300 per inhabitant is available. On a per-capita basis, the Baltic states will benefit most, with an average amount of more than EUR 400 per inhabitant. In Central and Eastern Europe, Slovenia – which currently enjoys the highest level of prosperity, with per-capita GDP exceeding 70 per cent of the EU average – will receive the lowest amount of assistance, at just under EUR 200 per inhabitant (table 3).

Use of EU assistance is going to start slowly
Initially, the accession countries are likely to have a low financial absorption capacity. Community assistance will not be fully under way until 2005 as the significant amount of administrative work involved in making applications will be a hurdle especially during the initial phase. Moreover, the effect will additionally be dampened by the need to leave sufficent scope in national budgets for co-financing, which as a rule requires about 25% to come from domestic sources. EU accession in May will nevertheless be an important factor stimulating further investment activity. Bank Austria Creditanstalt's economists expect fixed capital formation in the new EU member states to reach a total of about EUR 350 billion over the next three years.

In the context of further developments in Central and Eastern Europe, the main question is to what extent the accession countries will succeed in reducing their budget deficits in the next two years. This will be a difficult task, all the more so as several countries have governments without a parliamentary majority. Most recently, fiscal problems in Hungary and Poland led to financial market turmoil and a weakening of exchange rates.

"In the short term, a significant delay in budget consolidation could even support growth because government spending would be higher. But later on this could require more radical austerity measures dampening growth. Moreover, capital markets would take a negative view of such a policy, which would result in high volatility," says Marianne Kager.



Enquiries: Bank Austria Creditanstalt Group Public Relations
Edith Holzer, tel. +43 (0)5 05 05-57126 ;
e-mail: edith.holzer@ba-ca.com