Tuesday, March 31, 2009

Topolánek's toppling leads to early Czech election

by Manuel Alvarez-Rivera, Election Resources On The Internet

The Czech Republic will be holding an early general election later this year - nearly a year ahead of schedule - after the center-right coalition government of Prime Minister Mirek Topolánek was brought down last week in a parliamentary no-confidence vote. Topolánek, who submitted his resignation last Thursday but remains as caretaker head of government and leader of the Civic Democratic Party (ODS) - the largest party in the Central European country's bicameral legislature - subsequently reached an agreement with former Prime Minister Jiří Paroubek, the leader of the Czech Social Democratic Party (ČSSD) - the main opposition force - to hold an early poll next October; a specific date remains to be determined.

Prime Minister Topolánek came to office following a closely fought general election in June 2006, which left the Chamber of Deputies - the lower house of the Czech Parliament - evenly split between left- and right-wing parties. However, in early 2007 Topolánek was able to secure a parliamentary majority with the help of two rebel ČSSD deputies, and he went on to survive four no-confidence motions during the course of 2007 and 2008. Nonetheless, his government depended upon a fragile majority, which was finally shattered when four dissident deputies - two from ODS, plus two recently expelled from the Green Party (SZ) - sided with ČSSD and the Communist Party of Bohemia and Moravia (KSČM) to pass by 101-96 a vote of no-confidence.

Coincidentally, the fall of the Czech government came on the same day that Topolánek - who currently holds the European Union's rotating presidency - made headlines around the world when he criticized the economic stimulus program of U.S. President Barack Obama as "the road to hell." While the vote of confidence was triggered by allegations of abuse of state subsidies by a deputy who left ČSSD to support ODS, some opposition deputies voted to bring down Topolánek as a protest against his government's economic policies, which according to them failed to deal effectively with the global financial crisis; although the Czech economy is not in as dire straits as those of other nearby countries (such as Hungary), the Czech Republic is nonetheless forecast to suffer a recession this year.

Opinion polls have ČSSD ahead of ODS; that said, the gap between the two parties appears to be narrowing down. Nonetheless, the Social Democrats are hoping for a repeat of their performance in last October's regional and Senate elections, in which ČSSD captured 23 of 27 Senate mandates up for renewal, depriving ODS of its absolute majority in the upper house of Parliament. Although it has some ex-Communist members, ČSSD is not a post-Communist party; unlike major left-of-center parties in other Eastern European countries, it traces its roots to the Social Democratic Party that was forcibly merged with the Communists in 1948. However, the Czech Social Democrats have to compete on the left with the Communists, who still command a significant following.

The Czech Chamber of Deputies is elected by party-list proportional representation in regional constituencies - Parliamentary Elections in the Czech Republic has a review of the Czech electoral system - and no single party has ever commanded an absolute lower house majority. Moreover, the ongoing presence of a sizable, unreformed Communist Party has greatly complicated the task of forming stable governments in the Czech Republic. While the Social Democrats have called upon Communist support from time to time (as they did for last week's no-confidence vote), neither them nor the parties to their right regard the Communists as suitable coalition partners, largely for historical reasons: save for the short-lived "Prague Spring" of 1968, the Communist Party governed Czechoslovakia - the now-defunct federation of the Czech Republic and Slovakia - in a totalitarian fashion from 1948 to 1989, when the Velvet Revolution put an end to the Communist regime.

As a result, since 1996 the Czech Republic has been ruled either by shaky coalition cabinets, such as those formed from 2002 to 2006 by ČSSD and the four party coalition headed by the Christian and Democratic Union-Czechoslovak People's Party (KDU-ČSL), and from 2007 to the present by ODS, KDU-ČSL and SZ; or by minority governments dependent upon the good will of the opposition, as was the case from 1998 to 2002, when ODS reached an "opposition agreement" with ČSSD under which the Civic Democrats tolerated Milos Zeman's minority Social Democratic government without supporting it.

In fact, Topolánek may have to reach out to the Social Democrats in order to secure Senate passage of the Lisbon Treaty, which would streamline the functioning of the European Union. While Topolánek is in favor of the treaty, many Euroskeptics in ODS remain opposed to it, as is President Vaclav Klaus, the former leader of the Civic Democrats.

At this juncture, it remains unclear what will happen to Prime Minister Topolánek's outgoing government until the election is held. ČSSD leader Paroubek declared that he is willing to tolerate the government until the end of June (when Sweden takes over the EU presidency) if certain conditions are met, but favors the appointment of an interim government of non-party experts after that date. Meanwhile, Topolánek insists on remaining in office, but he and President Klaus - who has the right to appoint the next government - are political enemies, and not surprisingly Klaus is proposing the formation of a new cabinet without further delay. However, Czech governments require majority support in the Chamber of Deputies in order to remain in office, and in light of last week's events it appears rather unlikely that such support would be forthcoming.

Monday, March 23, 2009

Czech Industrial Output Drops By 23.3% In January

Czech industrial output fell the most in at least 16 years in January, the fourth successive month of contraction. Output was down 23.3 percent following a revised 12.8 percent slump in December. The drop was the highest since Czech Reublic came into existance in January 1993.

The slowdown in the euro region, which is the main market for Czech goods, is really hurting exports, and both the central bank and the Finance Ministry are cutting their 2009 forecasts. Central bank Governor Zdenek Tuma estimates that the economy may contract by as much as 2 percent this year. Others put the size of the contraction much higher:

“The slump of industrial output confirms fears that the economy may contract 3 percent to 4 percent this year,” said Vojtech Benda, senior economist at ING Wholesale Banking in Prague, in a note to clients. “For the central bank, it presents quite a clear argument for another lowering of interest rates, which could be outlined after the Thursday meeting.”

The central bank, which has cut the benchmark repurchase rate to 1.75 percent, meets again this week Most analysts feel they will keep rates unchanged, but as we see above Vojtech Benda is not so sure, and looking at today's data I am inclined to agree with him.

Strong Contraction In Eastern Europe Forecast

According to a study out today by Capital Economics East Europe’s gross domestic product will shrink 6 percent on average this year, with every single economy in the region posting a contraction.

The biggest decline (15 percent) will be in the Baltics. Poland is forecast to contract by 3 percent. The polish decline will be lead by a drop in industrial output that will help push the unemployment rate to close to 15 percent. Falling tax receipts will widen the fiscal gap to 5 percent of GDP, making the goal of euro adoption in 2012 unlikely.

Hungary and Romania, which is negotiating external aid, will both shrink by 7.5 percent. Turkey will also shrink 7.5 percent, while Ukraine’s and Estonia’s output will decline by 10 percent. Bulgaria, expected to shrink 5 percent this year, is likely to follow its neighbor Romania in applying for an IMF loan as a collapse of exports and inward investment will shrink the money supply, forcing the government to drain its fiscal reserves to restore liquidity. Capital Economics argue Bulgaria's reserves will only cover their needs for a further six to 12 months.

Update Czech Central Bank Leaves Interest Rates Unchanged

The Czech central bank left its benchmark interest rate unchanged on concern that a reduction would further weaken the koruna and spark inflation. The Prague-based Ceska Narodni Banka kept the two-week repurchase rate at 1.75 percent. So concerns about the Koruna have won out over growth in the short term.

Wednesday, March 04, 2009

How Not To Manage Eastern Europe's Financial Crisis (Part 1)

"Saying that the situation is the same for all central and eastern European states, I don't see that......you cannot compare the dire situation in Hungary with that of other countries."
Angela Merkel, Brussels, Sunday

"Happy families are all alike; every unhappy family is unhappy in its own way"

In Europe, leaders rejected pleas for a comprehensive rescue plan for troubled East European economies, promising instead to provide “case-by-case” support. That means a slow dribble of funds, with no chance of reversing the downward spiral.
Paul Krugman

Bank regulators from Bulgaria, the Czech Republic, Poland, Romania and Slovakia met today and issued a joint statement, ostensibly to reduce the some of the impact of what they term "alarmist comments" from the Austrian government about how the regional banking system is now in such a precarious state that it requires urgent action at EU level to prevent meltdown. The Austrian government are, of course, concerned about the impact of any meltdown on their own banking system. The result of this "reassuring statement" can be seen in the chart below (10 years, HUF vs Euro).

Within minutes of the joint statement Hungary's currency plummeted to an all-time low against the euro and to a 6.5-yr low versus the US dollar. In fact the HUF rapidly depreciated to 312 per euro from 307.50 before climbing back in later trading to 310. And the reason for this swift reaction? Hungary was not invited to join the statement. As the forint plunged, Hungary 's banking regulator hurriedly signed up to the statement, blaming the original omission on a communications mess-up, but the damage was already done.

“Each of the CEE Member States has its own specific economic and financial situation and these countries do not constitute a homogenous region. It is thus important first to distinguish between the EU Member States and the non-EU countries and also to clarify issues specific to particular countries or particular banking groups."

Well this just takes us back to Tolstoy, each of them have their own specific problems, but the underlying reality is that they all face problems, and are vulnerable, each in their own way.

Hungary's economic fundamentals are clearly much weaker than those to be found in the Czech Republic and Poland as things stand, but what about Bulgaria and Romania? And the Czech Republic and Poland are about to have a pretty hard time of it as a result of their export dependence on the West, and Poland has the unwinding of the zloty options scandal still to hit the front pages. So there is plenty of food for thought here before throwing Hungary to the wolves. A default in Hungary could very easily lead to contagion elsewhere, and then the impact in the West is very hard to foresee. We should not be playing round with lighted matches right next to our fireworks stock. "Hey, it's dark in here" and then "boom".

Yesterday it was Latvia's turn, and the cost of protecting against a Latvian default (Latvia is the first European Union member priced at so- called distressed levels) rose to a record following the announcement that the unemployement level rose from 8.3% in December to 9.5% in January, the highest level in nearly nine years. In fact credit-default swaps linked to Latvia increased nine basis points to an all-time high of 1,109 basis points, according to CMA Datavision in London. The cost is above the 1,000 level, breached last week, that investors consider distressed, and is now about 270 basis points above contracts linked to Lithuania, the next-highest EU member.

So two countries are being systematically detached here - Latvia and Hungary - and statements by EU leaders are unwittingly aiding and abetting the process. But we should all remember, after they have eaten Latvia and Hungary for breakfast, the financial markets will undoubtedly chew on other luckless countries over lunch (Romania's Q4 GDP data was out today, and it was a shocker, and S&P have already said they are "closely monitoring" the situation), before perhaps moving on to bigger game for supper.

And we should remember here, no one is too big to fall, and I have already been warning about the gravity of Germany's situation, with a rapidly ageing population, a hefty bank bailout of its own to swallow, and total export dependence for GDP growth. Final data from Markit economics out today showed that Germany's composite PMI fell to 36.3 in February from 38.0 in January. That was the lowest level registered since the series began in January 1998. And it means that the German economy - which is highly interlocked with the whole of Eastern Europe (Austria holds the finance and Germany the industrial exposure) - is certainly contracting more rapidly in the first quarter of this year than it was in the last quarter of 2008, and may well contract in whole year 2009 by something in the order of 5%. So maybe someone over there in Germany should be reading the poem you will see below aloud to "our Angela" right now (Oh, and if you don't speak German, you can find a translation here).

Als die Nazis die Kommunisten holten,
habe ich geschwiegen;
ich war ja kein Kommunist.
Als sie die Sozialdemokraten einsperrten,
habe ich geschwiegen;
ich war ja kein Sozialdemokrat.

Als sie die Gewerkschafter holten,
habe ich nicht protestiert;
ich war ja kein Gewerkschafter.

Als sie die Juden holten,
habe ich geschwiegen;
ich war ja kein Jude.

Als sie mich holten,
gab es keinen mehr, der protestieren konnte.

What Last Weekend's EU Summit Did And Did Not Achieve

Well reading the press on Monday morning it would have been fairly easy to reach the conclusion that nothing really happened yesterday in Brussels, and that a great opportunity was lost. The latter may finally be true, but the former most certainly is not.

Let's look first at what was not decided on Sunday. The leaders of the 27 member countries in the European Union most certainly did not vote to back a proposal from Hungarian Prime Minister Ferenc Gyurcsany for a 180-billion-euro ($228 billion) aid package for central and eastern Europe. They did not back it because it was not even seriously on the agenda at this point. These people move slowly and we need to talk them throught one step at a time. So what was on the agenda. EU bonds for one, and accelerated euro membership for the East for a second. And once we have the EU bonds firmly in place, then that will be the time to decide how we might use the extra shooting power they will bring us (boosting the ECB balance sheet would be one serious option they should consider, see forthcoming post from me and Claus Vistesen). That is when the emergency blood transfusion Gyurcsany was rooting for might come into play, but on this, as on so many items, the details of how we do what we do as well as the "what we do" will become important, so the moves we do take need to be well thought out, and systematic, they need to get to the roots of the problem, and not simply respond to problems on a piecemeal, reactive basis.

As Paul Krugman puts it "In Europe, leaders rejected pleas for a comprehensive rescue plan for troubled East European economies, promising instead to provide “case-by-case” support. That means a slow dribble of funds, with no chance of reversing the downward spiral." Amen to that!

But let's look at little bit deeper at what has been decided, or if you prefer, at what has been floated, and may be "decided" at the next meet up. Well for one, we have promised not to be protectionist, and for another, The World Bank, The European Bank for Reconstruction and Development (EBRD) and The European Investment Bank (EIB) have launched a two-year plan to lend up to 24.5 billion euros ($31.2 billion) in Central and Eastern Europe. This sounds a bit like trying to drain an Ocean with a teaspoon, and it is, so predictably the financial markets were not too impressed, expecially when they learned that not much of what was promised was going to be new money (as opposed to theacceleration of existing commitments), and especially when we take this sum and compare it with the likely quantities which are needed to "take the bull by the horms". EBRD President Thomas Mirow (who is more likely to give a low side estimate than a high side one) recentlly told the French newspaper Le Figaro that in his view Eastern European banks could need some $150 billion in recapitalisation and $200 billion in refinancing to stave off the risk of a banking failure in the region. At least.

"(It) sounds like a lot of money, but when (commercial) banks have lent Eastern Europe about 1.7 trillion dollars, 25 billion is peanuts," said Nigel Rendell, emerging markets strategist at Royal Bank of Canada in London. "Ultimately we will have to get a much bigger package and a coordinated response from the IMF, the European Union and maybe the G7."

So let's now move on to the positive side of the balance sheet, since as we know our leaders are a slowish bunch when it comes to grasping what is actually going on here, and an even slower group when it comes to acting on that knowledge once it has been acquired. The biggest plus to come out of last weekend's thrash is most definitely the fact that the idea of accelerating membership of the eurozone for the Eastern countries has now started to gain traction, if with no-one else then at least with Luxembourg Prime Minister (and Finance Minister, he is a busy man) Jean-Claude Juncker, aka "Mr Euro", who was quoted by Reuters on his way into the meeting saying he did not expect any early change to accession criteria for the single currency.

"I don't think we can change the accession criteria to the euro overnight. This is not feasible," Juncker told reporters as he arrived for a summit where non-euro eastern countries are due to call for accession procedures to be accelerated after their local currencies have taken a hammering on markets.

While in the news conference following the meeting he said that there was now a consensus that the two-year stability test required for a currency of a country hoping to join the euro zone should be discussed.

"I can understand that there may be a slight question mark over the condition that one needs to be member of the monetary system (ERM2) for two years, we will discuss this calmly," Juncker told a news conference after a meeting of EU leaders.

So something actually went on during the meeting, even if we are largely left guessing about what. Angela Merkel also left a similar impression that movement was taking place. "There are requests to enter ERM 2 faster," Merkel is quoted as saying. "We can have a look at that."

Now I have already spelt out at some length why I think the Eastern Countries should be offered accelerated membership of the eurozone forthwith (see this post) as has Wolfgang Munchau (in this FT article here).

The Economist, in a relatively sensible leader which I have already referred to, divides the Eastern countries into three groups. Firstly there are those countries that are a long way from joining the EU, such as Ukraine, Turkey and Serbia. As the Economist points out, while it would be foolhardy practically and hard-hearted ethically to simply stand back and watch, European institutions are pretty limited in what they can do apart from offereing some timely financial help or some sound institutional advice, and it is entirely appropriate that the main burden of pulling these countries back from the brink should fall on the International Monetary Fund.

Then there are those East and Central European Countries who are themselves members of the Union, and here it is the EU that must take the leading role. A first group of these is constituted by the Baltic trio (Estonia, Latvia and Lithuania) and Bulgaria, who have currencies which are effectively tied to the euro, either through currency boards, or pegged exchange rates. Simply abandoning these pegs without euro support would both bankrupt the large chunks of their economies that have borrowed in euros and deal a huge psychological blow to public confidence in the whole idea of independent statehood. Yet devalue they must (either via internal deflation, or by an outright breaking of the peg) and either road is what Jimmy Cliff would have called a hard one to travel. As the Economist itself suggests, these countries have suffered the most painful part of being in the euro zone—the inability to devalue and regain competitiveness—without getting the most substantial benefits of participation, so although none of them will meet the Maastricht treaty’s criteria for euro entry any time soon (and since they are tiny - the Baltics have a population of barely 7m, and Bulgaria is hardly bigger), letting them directly adopt the euro ought not to set an unwelcome precedent for others and should certainly not damage confidence in the single currency (any more than it already is, that is).

On the other hand unilateral adoption of the euro is a rather more difficult issue for the third group of countries, those who are EU members, are not in the eurozone and have floating exchange rates: the Czech Republic, Hungary, Poland and Romania. None of these is here and now, tomorrow, ready for the tough discipline of a single currency that rules out any future devaluation, and they are large enough collectively (around 80 million) that their premature entry could expose the euro to more turbulence than it already has on its plate. But so could simply leaving the situation as is, since if these economies enter a sharp contraction (more on this in a coming post) then the loan defaults are only going to present similar problems for the eurozone banking system as their currencies slide. The big vulnerability for Western Europe from the Polish, Hungarian and Romanian economies, arises from the large volume of Euro and CHF denominated debt taken on by firms and households, mainly from foreign-owned banks. As the Economist puts it "what once seemed a canny convergence play now looks like a barmy risk, for both the borrowers and the banks, chiefly Italian and Austrian, that lent to them".

So we now have several EU leaders opening the door for the first time to the possibility of fast-track membership of the eurozone. As we have seen German Chancellor Angela Merkel said after the summit that we "could consider" accelerating the candidacy process, French President Nicolas Sarkozy said that "the debate is open", and Luxembourg Prime Minister Jean-Claude Juncker, who heads the Eurogroup of eurozone finance ministers, said he was willing "to calmly discuss" such a possibility. So the debate is open. When will the next meeting be? On Sunday I hope. A week in all this is a very long time for reflection in this hectic world. We need proposals, and concrete ones for how to move forward here. Especially since at the present time all our attentions seem to be focusing on the East, and there is also the South and the West (the UK and Ireland) to think about. Perhaps our leaders will be able to make time from their crowded agendas for a series of mid-week meetings on this topic.

And while the leaders dither, the markets react, and as Bloomberg reports the dollar surges as everyone seeks a safe haven during the coming storm.

The dollar rose to the highest level since April 2006 against the currencies of six major U.S. trading partners.... and .... The euro dropped to a one-week low against the greenback as European Union leaders vetoed Hungary’s proposal for 180 billion euros ($227 billion) of loans to former communist economies in eastern Europe. The Swedish krona fell to a record versus the euro on speculation the Baltic region’s borrowers may default, and the Hungarian forint and Polish zloty tumbled.

The Hungarian forint led eastern European currencies lower today, falling 3.1 percent to 243.86, while Poland’s zloty lost 3 percent to 3.7796. The forint fell to a 6 1/2-year low of 246.32 on Feb. 17 as Moody’s Investors Service said it may cut the ratings of several banks with units in eastern Europe. The zloty touched 3.9151 the next day, the weakest since May 2004.

EU leaders spurned Hungary’s request for aid at a summit in Brussels yesterday. Growth in Poland, the biggest eastern European economy, will slow to 2 percent, the slackest pace since 2002, the European Commission forecasts.