Strengthening the Economic Engine: Prosperity and Resilience of CESEE Economies in a Changing Trade Landscape

IMF News, June 12, 2019

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Canonical URL: Strengthening the Economic Engine: Prosperity and Resilience of CESEE Economies in a Changing Trade Landscape

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Authors: Christine Lagarde
Published: June 12, 2019

Introduction & Theme

Setting: European Central Bank – Frankfurt, Germany, June 12, 2019.
Core message: CESEE (Central, Eastern, and Southeastern Europe) economies were built on integration and openness; current retreat from global cooperation and new trade barriers create headwinds for the CESEE growth model.
Structure of the speech: (1) how the CESEE economic engine was built; (2) new IMF research on trade tensions and implications for CESEE; (3) policy priorities to strengthen resilience and secure future convergence.

I. CESEE: How a Powerful Economic Engine was Built

Growth and convergence
- Since the mid-1990s, annual real per capita growth in CESEE has averaged nearly 3¾ percent, almost triple the per capita growth rate in the rest of the EU.
- The region’s GDP per capita, adjusted for differences in purchasing power, has more than doubled.
- In the Baltic states, per capita income has tripled.
- In the Western Balkans, per capita income remains less than one-third of German levels.
Drivers of growth
- Bold reforms: price liberalization, fiscal stabilization, privatization, new institutional and governance frameworks.
- Economic integration: access to foreign markets, foreign capital, deep integration into cross-border supply chains, specialization, and technology transfer.
Trade and investment statistics
- Since 1995, exports from CESEE grew at an average pace of over 8½ percent per year.
- By 2014, more than three-quarters of CESEE exports were linked to supply chains, compared to two-thirds of exports from other EU countries.
- Over the past 20 years, the region quadrupled its share of world gross exports of car and car parts — from less than 2.5 percent in 1997 to over 10 percent in 2017.
- In the decade leading up to the global financial crisis, the region received a large influx of private capital, averaging more than seven percent of GDP per year.
Sectoral examples
- Auto industry: Slovakia is now the second-largest producer of cars per manufacturing worker in the EU.
- Broader GVC presence: aerospace in the Czech Republic and Poland; computers and electronics across the Visegrad countries; apparel and shoes in Romania and Bosnia and Herzegovina.
Role of EU and international financial institutions
- EU membership prospects and support provided capital, trade opportunities, and benchmarks that aided reforms.
- The IMF created the Systemic Transformation Facility (STF) to address needs of former communist countries.

II. Headwinds from the Changing Trade Landscape

Context
- Global trade growth has been subdued for more than six years and the largest economies are erecting new trade barriers.
- CESEE’s openness and specialization increase exposure: disruptions in one supply-chain link can propagate widely.
New IMF research (released with the speech)
- Scenario analyzed: hypothetical US imposes a 25 percent tariff on imports of cars and car parts.
- Two key takeaways:
- Only a small portion of the impact of the US tariff shocks on CESEE economies would occur in countries that directly export cars or car parts to the US; most impact would be felt by other trading partners and in sectors that are part of existing supply chains.
- Losses from higher car tariffs would spread across more European economies than gross export data suggests.
- Country example: Czech Republic
- Direct exports of car and car parts from the Czech Republic to the US are very small — less than one tenth of one percent of GDP.
- Despite small direct exports, the Czech Republic would be the fourth most affected country by car tariffs in all of Europe because a large amount of Czech value added is incorporated into other countries’ car exports to the US.
- Estimated losses exceed the country’s direct exports of cars and car parts to the United States: losses calculated using value added exports are 0.1% of GDP or $184 million, while gross exports of cars and car parts to the US are 0.07% of GDP or $156 million.
Current state of play
- Despite vulnerabilities, there are no clear signs yet that changes in the global trade landscape have negatively affected the CESEE region to date.
- Since 2011, exports from the region have continued to grow at almost double the rate of GDP.

III. Policies for Navigating the Uncertain Road Ahead

Overarching need: upgrade the growth model through a new generation of reforms and renewed political commitment to reform.
Three cross-cutting policy priorities highlighted

1. Investing in human capital and boosting the labor supply

Address widespread labor shortages and rising skill mismatches, exacerbated by demographic trends.
Policy levers: enhance vocational education, training, and lifelong learning; raise the retirement age; increase labor force participation of women; support hiring of more foreign workers.
Example: Poland, Slovakia, and the Czech Republic simplified procedures for hiring short-term foreign workers from select non-EU countries, helping increase labor supply.
Note: demographic challenges will be a focus at the joint IMF-Croatian National Bank Conference in Dubrovnik next month.

2. Strengthening anti-corruption efforts and institutions

Modernize institutions, especially judicial systems, to rebuild trust and improve productivity and investment.
Corruption, when institutionalized, undermines investor attraction and job creation; global youth survey indicated corruption was identified as the most pressing concern by young people.
IMF will include governance more prominently in surveillance work.
Example: Bulgaria established a new unified anti-corruption agency in 2018 and enacted reforms to enhance judicial independence.
Western Balkans: meeting governance standards and EU accession requirements can catalyze further regional integration.

3. Improving international cooperation on trade

De-escalate current trade disputes and pursue constructive dialogue to fix and modernize the global trade system.
Priorities: avoid tit-for-tat tariffs; unlock potential of e-commerce and trade in services; address distortionary effects of state subsidies; improve enforcement of intellectual property rights; ensure effective competition.
Aim: build a global trading system that delivers broadly, especially for those hurt by disruptions from rapid technological change.

Combined effect: domestic reforms plus international cooperation can recalibrate the region’s engine, build resilience, and deliver a more prosperous and inclusive future.

Conclusion

Acknowledgement of challenging times for CESEE and Europe more broadly.
Call to action: draw on past experience of integration and, through hard work and cooperation, generate new certainties to ensure CESEE’s economic engine continues to deliver convergence and prosperity.
Quotation: Vaclav Havel — “It is in the moment of profound doubt that we can give birth to new certainties.”

Source: Speech by Christine Lagarde — IMF Managing Director, “Strengthening the Economic Engine: Prosperity and Resilience of CESEE Economies in a Changing Trade Landscape”, European Central Bank – Frankfurt, Germany, June 12, 2019.