Why Eastern Europe Is Getting A Warm Embrace From The Ec

Eastern Europeans had much to cheer about when the Soviet power structure flew apart just days after an abortive coup in mid-August. Czechs and Hungarians hailed the Soviet collapse by singing in Wenceslas Square and bidding up shares on the Budapest Stock Exchange. Playing to a prime-time television audience in Poland, President Lech Walesa phoned and quipped about life in jail with another former political prisoner: Soviet leader Mikhail Gorbachev.

But that's not the biggest reason to celebrate. As the Soviet Union unravels, Eastern Europe suddenly finds itself in the warm embrace of Western Europe. Behind the change are fears that an imploding Soviet economy could send swarms of immigrants westward. To secure the East's safe transition to a market economy, the EC is now willing to set aside its worries about floods of cheap products from the East. It's likely to offer associate status to Poland, Hungary, and Czechoslovakia before yearend. Romania and Bulgaria could follow later. "For Western Europe, the dilemma is simple. Either we increase aid and open our markets or we open our borders to immigrants," says Pierre Tailbot, senior vice-president for Eastern Europe at the Banque Nationale de Paris.

BONANZA? By casting a lifeline to the East, the EC is laying the foundations of a post-cold-war Europe. A much bigger free trade zone is emerging on the eve of 1992. "It's possible we will end up with a community of 24 or more," says EC Foreign Commisioner Frans Andriessen. To meet this new challenge, the EC will have to rethink its plans for economic and political union. Its December deadlines for new political and monetary treaties may have to be pushed back.

Gaining associate-member status could prove a bonanza. It will pave the way for a gradual lifting of quotas on agricultural products, textiles, and steel from Eastern Europe. "That could bring stability to whole sectors of industry," says Andrzej Kozakiewicz, a Polish economic adviser. At the same time, leaders such as German Chancellor Helmut Kohl want to tie any Soviet aid from the EC to a pledge that a portion of the money will be used to buy East European goods.

Foreign investment also could get a boost. Western companies eager to size up vast new markets in Russia and adjoining republics are likely to plunk down their capital first in Eastern Europe, where reforms are further along and knowledge of the Soviet market is deep. Already, a bidding war is brewing among General Motors, Fiat, and Citroen for a stake in Polish auto maker FSO as gateway to the Soviet market. "There should be more of a chance for concrete projects to attract Western money," says Gerard Bloch-Morhange, a vice-president for French computer maker Groupe Bull.

GATEWAY. A reconfigured Soviet Union may ultimately prove a powerful trading partner for the East Europeans. But for the next few years, most analysts expect a turbulent transition period for the Soviet economy, marked by soaring inflation, shortages, and a wave of bankruptcies. Yet the impact of much of this turmoil on Eastern Europe has already been felt. Trade dropped off sharply earlier this year when the Soviets demanded that payments be made in scarce dollars. It won't increase any time soon, since the Soviet republics don't yet have the banks or convertible currencies needed for foreign trade. "Without banks authorized to engage in foreign trade, it's impossible to begin selling to the republics," says Janos Lendvai, head of international economic relations at Hungary's Industry Ministry.

In the most optimistic case, the Soviet republics will need two years to lay the foundations for a market economy. That's why the EC is moving fast. If the worst happens, a collapsing Soviet economy or civil war could send millions of immigrants streaming into the wobbly economies of Eastern Europe. The added strain could topple the region's first post-communist governments if the poverty-stricken clamor for an end to the painful transition to a market economy. That danger became clear last fall during Poland's presidential elections,when dark-horse nationalist candidate Stanislaw Tyminski took a stunning 23% of the vote in a race against Lech Walesa.

There's no question that Poland, Czechoslovakia, and Hungary need Western help fast. "All these countries must weather a deep recession for the next one to two years, losing 10% to 14% of GNP a year," says Andreas Gummich, a Deutsche Bank economist and Eastern Europe expert.

STUMBLING GIANTS. Facing bankruptcy are hundreds of huge state enterprises. Their demise threatens many ambitious privatization schemes. Even some companies with Western joint-venture partners have gone under, including the Hungarian telecommunications giant Videoton, which went into bankruptcy last week. Groupe Bull is now scaling down its joint venture with Videoton. "It's a warning for countries where the situation is even tougher," laments Groupe Bull's Bloch-Morhange.

The crisis is most severe in Peland, where industry is weakest. Giant tractor maker Ursus, with 23,000 employees, collapsed this July and is being liquidated. In the textile region around Lodz, unemployment has already hit 18%, while antiquated production methods hamper steel factories in Katowice. The economic crisis is the hottest issue inthe runup to parliamentary elections on Oct. 27.

Big economic and legal reforms adopted over the past two years should smooth the way for Western help. Everything from stock markets to new courts are starting to take shape, and currencies are already partially convertible. PlanEcon Inc., a Washington consulting firm, predicts that new investment in the East will total $7.8 billion next year. That's a 53% increase over the $5.1 billion invested this year.

Eastern Europe's infrastructure is improving steadily as well. Satellite and mobile phone services are coming on line in Poland and Hungary. The changes haven't gone unnoticed. "Nine months ago, the investors coming here were one-man operations," says William D. Kirst, managing partner at Price Waterhouse in Warsaw. "Now, there's a shift to investing capital." That's the best indication yet that Eastern Europe's struggling democracies are ready to join the new Europe.