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Aug 17, 2009 18:11 EEST
August 17 (SeeNews) - The economies of Romania, Bulgaria and Serbia will continue to contract next year as the crisis has been deeper than initially expected, Greece’s Eurobank EFG, which has operations in all three countries, said on Monday.
Slowing inflation, sharply down to 2.6% year-on-year in June, will make it easier for Bulgaria to enter the Exchange Rate Mechanism II (ERM II), the two-year waiting room for the adoption of the euro, Eurobank EFG said in its August New Europe report.
“The contagion risk from a probable break up in the currency board of the Baltic States increases market concerns of possible lev denomination,” the report said.Since July 1997 Bulgaria has been operating an International Monetary Fund (IMF) -prescribed currency board system, a tight monetary arrangement that ties the level of cash in circulation to the amount of central bank reserves. The fixed exchange rate of the Bulgarian lev under the system is 1.95583 per euro.
“In the case of such event, it would entail significant economic costs for both corporate and households who are heavily leveraged in foreign exchange,” the bank said, adding that the board has incurred a large overvaluation of the lev. Given the announced intention for Bulgaria to enter ERM II, the new government may eventually be forced to devaluate the local currency to a more competitive rate on the run up to the Eurozone entry, the report said.
The sharp external demand contraction combined with shrinking capital inflows has placed Romania economy under stress, as the 20 billion euro ($28 billion) loan agreement with the IMF from March provided some relief for the economy, the report said. However, the IMF support may not prevent the Romanian economy from contracting deeper than initially thought. The initial IMF forecast, under which the loan was agreed, was for a contraction of the economy of 4% this year.
“As a result a revision of all macroeconomic variables before the disbursement of the second tranche should be expected.”
Lending conditions are becoming increasingly tighter despite the central bank’s concrete measures to boost credit growth and liquidity.
Inflation eased to 5.9% in June and leaves room for more bold interest rate cuts, the report said.
Romania’s central bank has lower its interest rate to 8.5% after cutting it on four occasions since the beginning of the year.
“[...] poor weather conditions have a negative impact on output and this is likely to impact negatively on inflation once again too.”
Serbia was one of the first countries to turn to IMF and other international organisations for financial support. By and large, the agreed aid will ensure adequate financing in the next two years, the report said.
“On the other hand, the challenges of the implementation in terms of fiscal consolidation are enormous. In fact it threatens to put the economy deeper into recession, given the size of the public sector.”
The good thing is that long term investors maintain their exposure in the country, the report said.
The bank sees Serbia’s consolidated budget deficit turning out to 4.5% of gross domestic product (GDP) this year, much higher than the 3.0% revised target set under the 3.0 billion euro loan deal with the IMF clinched in March.
Following is a table with the Eurobank EFG forecasts for the main economic indicators in Bulgaria, Romania and Serbia:
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