## A Changed Global Landscape: Policy Priorities in CESEE

_IMF News, May 23, 2025_

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## Bibliographic details
- Published: May 23, 2025

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### Macro outlook and recent revisions
- After a respectable recovery last year, the IMF downgraded growth for 2025 and 2026 across Europe; heightened uncertainty and trade policy volatility are the main factors.
- The downgrade for the CESEE region has been more sizeable than for advanced Europe: from over 3 percent in 2025 and 2026 to 2.4 and 2.7 percent respectively.
- The larger impact is primarily due to a comparatively larger manufacturing sector. The growth revision would have been even larger if not for the German infrastructure package and an acceleration of Europe wide-defense spending.
- Inflation in CESEE countries is coming down somewhat faster, but inflation rates will remain above targets for some time; persistent services inflation and lagged effects of still high wage growth are key drivers and a risk to competitiveness.

### Direct exposure and trade-dispute channels
- Direct exposure to US tariffs:
  - Exposures are especially large in the Slovak Republic and Hungary.
  - Exports to the US (primarily cars, car parts, batteries, and in the case of Hungary electronics) account for about 3 per cent of GDP in 2024.
  - Czechia and Hungary also have large export positions to the US via smartphones and computers exports; tariffs on these items have been exempted per the announcement made on April 11.
  - Any increase in tariffs would have substantial dampening effects on growth.
- Indirect effects via supply chains and trade diversion:
  - An increase in EV imports from China could have significant GDP effects in the range of 1-1½ percent over 5 years via supply chains in CESEE countries heavily reliant on the automotive sector.
  - A slowdown in Germany’s automotive sector has about a 5-10 times larger impact in percent of GDP in Slovakia and Hungary given their larger share of the sector relative to Germany.
  - If US-China trade tensions persist, channels of trade diversion include: higher EU imports from China; U.S. companies seeking new export destinations including in Europe; European firms seeking new export opportunities in the U.S. and China; increased competition on third-country markets (e.g., Turkish businesses competing in third markets).

### Quantitative estimates of trade diversion and inflation effects
- Preliminary IMF estimates from the April 8 tariff announcements for the EU are for higher imports from China of around 0.25 percent of EU GDP in the near term.
- The 90-day rollback of most bilateral tariffs announced by the US and China on May 12 implies lower numbers; the April-8 figure decreases to 0.09 percent with the May-12 tariffs.
- Trade diversion would also affect inflation: headline inflation could be reduced by 20 basis points in 2026.
- Aggregate trade diversion effects appear manageable overall, but impacts could be large in individual countries and sectors; effects for consumers and producers are mixed (lower final goods prices vs. increased competition and large adjustment costs in some sectors).

### Short-term policy priorities
- Overarching principle: maintain trade openness as much as possible; protectionism will hurt inward investment, lower investment further, and bring down productivity and income growth.
- Monetary policy:
  - Central banks need to remain focused on durably reaching price stability targets.
  - In several large CESEE countries—including Hungary—inflation is slowing, but is still above targets.
  - Central banks should ease cautiously because core inflation remains higher than hoped for and inflation expectations are responsive to current inflation.
  - Still high wage growth requires close attention; increases have outpaced productivity and contribute to inflation persistency and higher labor costs, posing a risk to competitiveness.
- Fiscal policy:
  - Rebuilding fiscal buffers remains a priority for many countries.
  - Long-term spending pressures are rising from aging, healthcare, climate, and higher defense spending.
  - Some countries can accommodate temporary increases in priority spending while keeping debt sustainability in mind; for many CESEE countries space is limited.
  - Recommended smart adjustments: (i) make public services more efficient and programs better targeted; (ii) reallocate spending priorities away from low priority areas; (iii) boost fiscal revenues—often without raising tax rates by closing loopholes and improving administration.

### Medium-term growth strategies and structural reforms
- Europe’s medium-term concerns: low growth, dwindling labor supply because of aging, slowing investment, and very low productivity growth over the last two decades.
- Spending needs are expected to rise significantly over the next decades: for advanced economies by 5¾ percentage points and for emerging economies by 8 percentage points of GDP.
- In CESEE, energy-related investment needs are urgent and very large; defense spending is also on the rise.
- Domestic structural reforms offer large untapped growth potential:
  - A forthcoming study finds comprehensive national reforms could raise real GDP levels by about 5 percent in advanced economies and between 6.6 and 9.3 percent in the CESEE region.
  - Priority reform areas: labor market and skill-upgrading reforms; fiscal-structural reforms and lower cost of business regulations; reducing corruption and inefficiencies through governance reforms.
  - Successful implementation requires political will and, in some cases, capacity building; overcoming reform inertia is characterized as “the challenge” of Europe.

### Role of the EU budget and incentives for reform
- The EU budget could play a catalyzing role; recent initiatives such as the Recovery and Resilience Facility (RRF) have strengthened policy performance.
- The next Multiannual Financial Framework (MFF) for 2028-2034 should build on this momentum and further embed a performance-based approach, especially where current incentives are weak and outcomes depend on effective effort.
- For pre-allocated funds tied to national plans, stronger performance incentives can help ensure investments yield meaningful results.
- To maximize impact, the budget could reward projects that complement EU-level objectives (for example, streamlining permitting processes for local distribution networks that connect with cross-border energy infrastructure).
- Policy coherence across national, regional, and local levels is essential; the EU budget can set incentives, but decisions and ownership need to be made at home.

### Key messages and concluding observations
- The CESEE region faces a changed global landscape with heightened uncertainty and trade volatility; impacts vary widely across countries and sectors.
- Policymakers should:
  - Preserve trade openness and expand trade agreements.
  - Keep support measures temporary and targeted, recognizing they cannot substitute for underlying fundamentals.
  - Remain cautious on monetary easing while restoring fiscal buffers and implementing smart spending adjustments.
  - Prioritize domestic structural reforms to unlock sizable medium-term growth gains.
  - Use the EU budget and performance-based incentives in the MFF 2028-2034 to catalyze and sustain reforms.
- The aggregate size of trade diversion appears manageable, but preparedness is warranted given potential large impacts in specific countries and sectors.

*Speech by Alfred Kammer, Director, European Department, May 23, 2025.*

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## References

- [Alfred Kammer](https://www.imf.org/en/About/senior-officials/Bios/alfred-kammer)
- [Slovak Republic and the IMF](http://www.imf.org/external/country/SVK/index.htm)
- [Speeches](https://www.imf.org/en/news/searchnews)
- [PRESS CENTER](http://presscenter.imf.org/)
- [IMF study](https://www.imf.org/en/Publications/WP/Issues/2024/10/11/Europes-Shift-to-EVs-Amid-Intensifying-Global-Competition-556285)
- [a catalyzing role](https://www.imf.org/en/News/Articles/2025/05/20/sp052025-ak-making-the-mff-fit-for-purpose)
- [https://www.imf.org/en/home](https://www.imf.org/en/home)

_Source: https://www.imf.org/en/news/articles/2025/05/22/sp052325-ak-a-changed-global-landscape-policy-priorities-in-cesee_