Understanding crisis in European economies

Marek Belka, Director of the IMF’s European Department has given a nice interview on crisis in European economies.

IMF Survey online: Countries in emerging Europe have weathered the crisis very differently, ranging from your native country, Poland, which escaped recession altogether, to Ukraine and the three Baltic countries, Romania, and Hungary, which suffered deep downturns. What factors determined whether countries ended up in one camp or the other?

Belka: I would name four factors: structural features of the economy, the quality of macroeconomic policies, the quality of institutions, and the exchange rate regime.

In a crisis, it’s good to be a relatively big economy with a diversified production base. Poland comes to mind. It not only has a relatively big domestic market but also a diversified export industry. In fact, Poland’s economy alone constitutes 40 percent of the region. If you add two other countries that have remained relatively stable—the Czech Republic and Slovakia—you have 65 percent of the region’s GDP. So looking at how Poland has weathered the crisis may give you a better picture of how emerging Europe has handled the crisis rather than looking at, say, Latvia.

Those countries that had unsustainable fiscal policies, such as Hungary or Romania, fell into crisis first. And those that had managed their policies well, including Poland but even more so the Czech Republic, remained relatively stable. And even though the crisis delivered a pretty severe blow, we have seen a clear rebound quite early in the crisis and no sign of destabilization in the banking sector in these two countries.

The quality of institutions played a role. One of the key institutions is financial sector supervision. Those countries that had strong supervisory regimes in place, such as the Czech Republic, managed to avoid excessive currency mismatches. Low interest rates also played a part because there was no incentive to engage in carry trade. The same was true, but to a lesser degree, of Poland.

Fixed exchange rate regimes have been a pillar of economic stability for the three Baltic states and Bulgaria. But they also encouraged excessive capital inflows. And now, with the crisis, these fixed regimes have radically limited the policy options for these four countries. That said, the exchange rate regime is only one factor. Some of the hardest hit countries, including Ukraine, Hungary, and Romania had floating, rather than fixed rates. So I’m far from saying the most important factor in the crisis is the exchange rate regime. The other three factors I have mentioned probably played a bigger role.

A good snapshot of problems in emerging european countries. Just notice that there is no one factor. Different countries with different policies, structures were effected.

IMF Survey online: Countries in emerging Europe have weathered the crisis very differently, ranging from your native country, Poland, which escaped recession altogether, to Ukraine and the three Baltic countries, Romania, and Hungary, which suffered deep downturns. What factors determined whether countries ended up in one camp or the other?

Belka: I would name four factors: structural features of the economy, the quality of macroeconomic policies, the quality of institutions, and the exchange rate regime.

In a crisis, it’s good to be a relatively big economy with a diversified production base. Poland comes to mind. It not only has a relatively big domestic market but also a diversified export industry. In fact, Poland’s economy alone constitutes 40 percent of the region. If you add two other countries that have remained relatively stable—the Czech Republic and Slovakia—you have 65 percent of the region’s GDP. So looking at how Poland has weathered the crisis may give you a better picture of how emerging Europe has handled the crisis rather than looking at, say, Latvia.

Those countries that had unsustainable fiscal policies, such as Hungary or Romania, fell into crisis first. And those that had managed their policies well, including Poland but even more so the Czech Republic, remained relatively stable. And even though the crisis delivered a pretty severe blow, we have seen a clear rebound quite early in the crisis and no sign of destabilization in the banking sector in these two countries.

The quality of institutions played a role. One of the key institutions is financial sector supervision. Those countries that had strong supervisory regimes in place, such as the Czech Republic, managed to avoid excessive currency mismatches. Low interest rates also played a part because there was no incentive to engage in carry trade. The same was true, but to a lesser degree, of Poland.

Fixed exchange rate regimes have been a pillar of economic stability for the three Baltic states and Bulgaria. But they also encouraged excessive capital inflows. And now, with the crisis, these fixed regimes have radically limited the policy options for these four countries. That said, the exchange rate regime is only one factor. Some of the hardest hit countries, including Ukraine, Hungary, and Romania had floating, rather than fixed rates. So I’m far from saying the most important factor in the crisis is the exchange rate regime. The other three factors I have mentioned probably played a bigger role.

Again a snapshot of advance europe neatly explained.

IMF Survey online: Now that the panic is behind us, what main lessons do you take away from this crisis?

Belka: Good policies begin in good times. Unfortunately, good times are usually seen as something to enjoy while they last, not only by politicians, but also by the people who elect them. And then the crisis hits and makes us realize good times don’t go on forever.

Therefore, good times are also times to make provisions for a rainy day. Making provisions is not only about accumulating reserves. It is also about building institutions that are able to resist the onslaught of a crisis, including in the financial sector.

We have drawn many lessons from the crisis when it comes to the shortcomings and imperfections of the financial markets. It is only legitimate to use the situation to bolster the regulatory framework and supervision. I worry that some lessons may not be learned. Policymakers were so effective in preventing a real catastrophe that some people may now simply forget what really happened.

Well, this is a great challenge and a worry. Not learning the lessons. One can see it happening already with large number of policymakers/business execs behaving as if nothing happened.

Advertisement

4 Responses to “Understanding crisis in European economies”

  1. Understanding crisis in European economies « Mostly Economics | Drakz News Station Says:

    […] the original post: Understanding crisis in European economies « Mostly Economics Share and […]

  2. Understanding crisis in European economies « Mostly Economics | Czech Today Says:

    […] Original post: Understanding crisis in European economies « Mostly Economics […]

  3. Sean Rays Says:

    Hello. This is kind of an “unconventional” question , but have other visitors asked you how get the menu bar to look like you’ve got it? I also have a blog and am really looking to alter around the theme, however am scared to death to mess with it for fear of the search engines punishing me. I am very new to all of this …so i am just not positive exactly how to try to to it all yet. I’ll just keep working on it one day at a time Thanks for any help you can offer here.

  4. What if Denmark was part of Europe? « Mostly Economics Says:

    […] this crisis (Poland is one exception, even Czech Republic). There is lots of analysis on this (see this excellent interview for a snapshot). The primary reason is the same as seen in most crisis – excessive […]

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s

This site uses Akismet to reduce spam. Learn how your comment data is processed.


%d bloggers like this: