Currency Issues Weigh on Eastern Europe
By JUDY DEMPSEY
A new dividing line is settling across central Europe with economic repercussions that are already painful and could potentially be disastrous.
Rather than being based on ideology, the division this time is based on countries that use the euro and those that do not.
Only two out of 10 of the newest Eastern European members of the European Union, Slovakia and Slovenia, are members of the 16-nation euro zone. And the other eight countries are desperate for help as their companies and economies are buffeted by currency fluctuations and declines.
The European Central Bank, which oversees the euro, puts money into the system by lending against collateral, and since the beginning of the current economic crisis, this practice has expanded vastly.
While euro zone members have priority, such lending also has become broader. British banks have benefited through their euro zone subsidiaries, and the central bank has even provided loans to central banks in Poland and Hungary.
What the central bank has not done for the new members yet to adopt the euro is to provide temporary currency swaps — along the lines of what the Federal Reserve did for Brazil, Mexico, Singapore and South Korea last October to enable those countries to convert their currencies more easily to dollars.
And the central bank does not accept as collateral the bonds issued in zlotys, forints or the other local currencies in Eastern Europe.
“This has made it unattractive for euro-area financial institutions to hold noneuro government bonds, thus contributing to their sell-off,” said Zsolt Darvas, a visiting fellow at Breugel, an independent economics research group in Brussels.
The global financial crisis was slow to reach this part of Europe because its banks had few troubled assets. But when the collapse of Lehman Brothers last September sent new shock waves through the global banking system, Eastern Europe and other emerging markets were no longer spared.
Hungary and Latvia were particularly vulnerable; Hungary because of its deep exposure to foreign lending, and Latvia because of its shaky banking system and overextended consumers. When foreign currency financing dried up, the domestic interbank money markets stumbled and currencies came under pressure. Both countries were rescued by the International Monetary Fund and the European Union, with a heavy price attached in the form of government spending cuts.
Political and psychological factors also make attracting funds more difficult outside the euro zone, said Vasily Astrov, an economist at the Vienna Institute for International Economic Studies.
“Investors have become risk averse, at least with regard to financial markets,” he said. “They are opting for countries which hold the major currencies.”
The extraordinary pace with which currencies have declined has only aggravated such problems. In Poland, the zloty has fallen in value by 50 percent against the euro.
In theory, that should help exporters. But Aleksander Drzewiecki, chairman of the House of Skills, a consulting company, said many export-driven companies depend on imports in the first place. “The turbulence with the exchange rate is horrible,” he said. “We have no idea where we stand.”
Poland, with almost 40 million people, is the biggest of the new member states. It lost an opportunity right after joining to quickly prepare to adopt the euro. The nationalist-conservative government then, led by Lech Kaczynski, was intensely skeptical toward the euro and resistant to abandoning the zloty.
The new center-right government, led by Donald Tusk, which took office in late 2007, is more “euro friendly,” Mr. Astrov said. But its target entry date of 2012 is now called into question by the economic turmoil.
Elsewhere in Eastern Europe, the Czech Republic is keeping its options about joining the euro zone open, although it would need support from President Vaclav Klaus, a euro skeptic.
The Baltic states would like to join as quickly as possible, but their economies are contracting so much that it would be impossible to meet the criteria, which, among other things, stipulates that budget deficits should be below 3 percent of gross domestic product.
Without its subsidiary in Germany, things could be a lot worse for Ergis-Eurofilms, the biggest manufacturer of plastic films and laminates in Poland, which last year had revenue of 150 million euros ($189 million at current exchange rates) and a profit of about 10 million euros.
By contrast, Fiam, a family-owned company in Slovakia that specializes in recycling plastic materials, has its subsidiaries outside the euro zone, in Hungary, Poland and the Czech Republic. As a result, Fiam has been protected from currency fluctuations in its home market, which has adopted the euro, but faces havoc when selling eastward.
“Leaving aside the fact that many economies are all in recession, there is predictability inside the euro zone because there are no currency fluctuations,” said Ivan Saro, the company’s chief financial officer, whose father started the business in 1988.
Andreas Tostmann, chairman of the board of Volkswagen’s subsidiary Skoda in Slovakia, said the elimination of exchange rates meant “higher stability in planning and not least, the simplification of transactions inside the VW Group.”
But VW, similar to Fiam, has markets outside the euro zone area, where its products become more expensive. “It is a nightmare,” Mr. Saro said.
The fluctuations have motivated the company to try to sell more to the euro zone area.
But Mr. Saro is still facing problems with tight credit. The banks, he said, are stricter in granting loans and customers are paying late.
“We get paid but we don’t know when,” he said. “The point is that having adopted the euro, it is some kind of guarantee. But don’t ask me to look beyond the short term. These times are just too crazy.”
source : The New york times
