The enlargement and cohesion of Europe

The enlargement and cohesion of Europe

The second interim report on economic and social cohesion, which has just been published, analyses the consequences of enlargement for the cohesion policy.

 

• From the statistical point of view, there are four types of conclusions:

 

• An increase in regional disparities. The income per capita (GDP/hab calculated in PPS) of the population of the 23 poorest regions (which constitute approximately 10% of the total of the population of the Union of 15) was 2.6 times lower than that of the inhabitants of the 15 richest areas (also including approximately 10% of the population of the Union). This gap will widen to 4.4 in the Union of 25.
• The average income of the Union of 25 will be reduced by 13% in comparison with that of the Union of 15. This reduction will have the effect of “statistically ousting” a number of the regions of the Union of 15, which until now were eligible for Objective I of the cohesion policy (nearly 70% of the total allocated funds). 30 areas of the Union of 15 (instead of 45 at the present time) with a population of 47 million inhabitants (instead of 68 million inhabitants) will be eligible after enlargement. In a parallel direction, the total number of eligible areas and inhabitants will increase more than proportionally in the Union of 25. 67 areas, comprising 26% of the total population (116 million inhabitants), will be eligible in the enlarged Europe of 25.
• A worsening of the average employment statistics in the Union of 25. In 2001, the average employment rate in the Union of 15 was 64%, and only 57.8% in the 10 applicant countries. The rate of unemployment in the new accession countries was 13% on average, compared with 7.4% in the Union of 15. Unemployment among young people is particularly high in those countries (28.6%).
• On the other hand, the applicant countries have a growth rate which is higher than the average in the current Union and their population’s level of education is on average higher than that of a number of regions, in particular in Southern Europe.

 

• This report also devotes a chapter to the factors leading to convergence, which recall in no incertain terms the four principal transverse axes of development put forward in the Lisbon Strategy**: human resources, R&D, innovation, associated with the spread of new technologies and entrepreneurship, especially that of SMEs. In these different fields, the table opposite (see also RES 26 – Special SMEs) clearly shows that enlargement must make Europe increase its efforts in order to achieve its medium term goals.

Enlargement therefore calls for renewed consideration of the policy of economic and social cohesion within the Union of 25. The principal directions indicated by this interim report are the priority to be granted to the poorest areas, the continuation of targeted assistance outside these areas, greater compatibility of the assistance granted with Community policies, special treatment allowed for areas which have lost Objective I status through statistical ousting and of course the budgetary issue.

Further cuts in interest rates in 2003 ?

In January a series of cuts in interest rates took place in the Visegrad group of countries. As a result, Hungary, Poland and Slovakia today have identical intervention rates (6.5%) and the Czech Republic a rate lower than that of the BCE (2.50%). Is there any room left for a further decrease?

 

• Apart from the coincidence of these interventions, the strategies followed by the various central banks during the year 2002 diverged appreciably:

 

• In Poland, which is characterized by weak inflation and GDP growth, the rate was lowered 8 times between 01/02 and 01/03. However, Poland’s monetary policy remains restrictive, as the Poli sh Central Bank focuses its concern on the budget deficit.
• Conversely, the Czech Republic, whose budget deficit was definitely greater (the public deficit could reach 7.3% of GDP in 2002 if one includes transfers of funds to the consolidation agencies for restructuring the banking sector, as against 5.4% in Poland), followed a very aggressive policy of rate cuts since the end of 2001 in order combat the rise in the value of the crown.
• In Hungary and Slovakia a change of direction occurred in the course of the year. The central bank of Hungary initially increased its rates (07/02) to counter inflationary pressures. After small adjustments in late 2002, it finally chose to defend its exchange rate system (band +15%/-15% around the central parity) by reducing its rate of intervention by 200 base points and by postponing until the end of 2004 the achievement of its inflation target (3.5%+/-1%). In Slovakia, the reference rate was first increased in April 2002 after a worsening of the current account deficit, and then, following the rise in the value of the currency, was lowered by 1.75 points during the autumn of 2002, even though the increase in certain administered prices should boost inflation to around 8% during 2003.

 

• Poland seems to be the only country with a potential for further interest rate cuts. Despite quite long delays in implementation, these cuts in interest rates provide rather welcome relief in a gloomy international economic situation. However, the deterioration of certain fundamentals, in particular large budget deficits in Hungary and the Czech Republic of 9.6% and 7.3% of GDP respectively and the deficit in the current account in Slovakia (8.3% of GDP) will in future strongly restrict their monetary policy. In Poland, the twin deficits appear to be better monitored and according to analysts the Central Bank still has some room for manoeuvre in lowering rates.

 

• In spite of market confidence, a more conservative fiscal policy seems henceforth to be called for.

In theory, these imbalances would seem to be a sign that the area’s currencies should be devalued. That was not the case until now, partly because the steady influx of FDI covered a large part of the current deficits. On the contrary, the currencies were showing a clear upward tendency. In fact, investors are maintaining their position for at least two reasons: firstly the catching up process will be accompanied by a steady appreciation of the actual exchange rate (see RES N°29), and secondly, the prospect of UE accession is synonymous with a convergence of interest rates and hence of capital gains on the bond market.

Zsigmond Jarai, the governor of the central bank of Hungary, recalled two days before the BNH’s interest rate cut that the feeling of euphoria induced by these two factors could possibly be reversed in the event of an adverse shock or an unforeseen worsening in the macroeconomic situation. A tightening of the budget, which would simultaneously favour a fall in interest rates and an improvement in the current account deficit, might make it possible to avoid this risk.

The cheese market in the CEEC

A complete and detailed survey on the cheese market in the PECO, published by the CFCE *, shows the structural changes which took place in this sector during the 90’s. As these countries have large dairy herds, the cheese industry has attracted a large amount of foreign investment which has restructured it.

 

• Cheese consumption in the region is growing, but it remains largely below European levels. In the EU of 15 it amounts to nearly 19 kg per capita per annum (excluding cheese spread), and 24 kg in France.

 

• In the CEEC, the level of consumption nowadays varies from 2 to 13 kg/capita/year, according to the country. It is at its highest in the Czech Republic, Latvia, Bulgaria, Poland, and at its lowest in Romania. But Hung ary experienced the largest growth rate : +122% between 1995 and 2000.
• Soft white cheeses, more or less drained, account for more than 50% of all the cheese consumed in 5 countries (Estonia, Hungary, Poland, Latvia and Romania), the Czech Republic and Slovakia being the two countries which are fondest of cheese spread.

 

• Three countries, Poland, Hungary and the Czech Republic attracted the most foreign investment, which resulted in a significant rise in their cheese production.

 

• Most of these investments were made by European dairy groups, for some of whom cheese making is only one of their activities. Many French companies produce locally, including Bongrain, Bel, Danone and Lactalis, to mention only the largest. German companies are also very prominent (Hochland, Meggle, Bayerische Milchindustrie, etc.), along with some Dutch and American investors.
• Production has increased in all these countries since 1992, except in Romania and Bulgaria (-50% with 56 000 tons in 2000). Conversely, it has increased by approximately 50% since that date in Slovakia and Poland. In 2000, total production in the CEEC, except for Bulgaria and Romania, reached 787 000 tons, including nearly 400 000 for Poland.

 

• Because of these investments and the trend towards sectoral specialisation which generally results from a large foreign presence, the CEEC are nowadays more geared up to exporting than to importing. In 2000 the accumulated exports from these ten countries amounted to 134 000 tons, compared with 74 000 in 1995, whereas on the import side, volumes only rose to 50 000 tons, i.e. 30% higher than 5 years ago. More importantly, their geographical trade patterns have been completely overturned, with two outstanding features:

 

• The decline of the European Union, now showing a volume deficit with the region. From a surplus of approximately 24 000 tons in 1995, the 15 showed a 25 000 ton deficit in 2000.
• A regionalisation of trade, since of the 50 000 tons imported in 2000, 48% came from the CEEC themselves (and 10% from the CIS), the Czech Republic’s share contributing about half of the total weight. In terms of exports, intra-regional trade accounted on average for 23% of the outlets, roughly as much as the EU and as much as 50% in the case of Poland and Slovakia.

 

• France is the second largest cheese supplier to the CEEC, with a 17% share of European exports in 2001, behind Germany (51%). Like the other leading European exporters, except Italy, France has seen her exports fall since 1995, finally showing a deficit in 2001. The Czech Republic and Poland today concentrate more than 60% of our foreign sales, with the notable decline of Romania whose weight passed from 33 to 8% between 1995 and 2001, in favour of regional supplies.

The CEEC’s Coface rating

What exactly does a Coface rating mean?

The country rate developed by Coface measures the average level of non-payment risk presented by a country’s companies for commercial transactions payable in under a year. It indicates how a company’s financial commitments are influenced by economic and financial prospects as well as by the politics of the country in which it operates.

The level of risk is calculated by means of a combination of our record of instances of non-payment and the appreciation of six kinds of risks : foreign currency shortage, the economic situation, political situation, sudden exchange rate devaluation, the state’s potential failure to pay its own debts, and the systemic crisis in the banking system.

In a manner similar to that of the international rating agencies, we have 7 rating levels, from A1 to A4 for “investment” risks, and from B to D for “speculative” risks. The Coface rating does not however have the same purpose as that of agencies which evaluate the ability a nd willingness of a sovereign issuer to repay its debt.

How do you currently evaluate the CEEC?

The Central European countries which are part of the next wave of enlargement to take place in 2004 present good risks overall. Thus, their grades are all “investment”, varying from A2 to A4, since the reclassification of Slovakia into A4 in January 2003. Bulgaria and Romania, who are expected to join in around 2007, appear among the best “speculative” risks, obtaining a B rating, Romania having also been reclassified into this category last January. In the current context of global slowdown, the countries of the region show good resistance, apart from Poland. And overall, the indices of non-payment risks have improved, whilst still remaining higher than those of Western European companies.

On which risks do you advise companies to remain vigilant?

Although enlargement brings new opportunities, the risks should not be disregarded. From a microeconomic point of view, many recently created companies are confronted with a high failure rate. At macroeconomic level, recurrent public deficits impose restrictive economic policies which are likely to weigh down growth. And the rise in the value of their currencies, in addition to the pressure exerted on their competitiveness, is accompanied by the risk of sudden exchange rate devaluation which can occur with a loss of market confidence.

Poland shows these difficulties today. The solvency of companies was affected by the contraction in demand, on the domestic market as well as abroad. After having been downgraded to category A4 in 2001, the country’s grade was placed under negative monitoring in January 2002. The recent recovery in business and the improvement in payment performance remain fragile and strongly dependent upon the confirmation of the economic revival. And in spite of a progressive fall, the evolution of the zloty remains in question.  

For background information to this analysis (Revue Elargissement No. 39 – 17 February 2003), the relevant tables, or more analyses, see the

enlargement website of DREE.

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