EU’s East Braced for Sanctions Pain With GDP Set to Slide

The European Union’s biggest eastern economies are flagging as escalating sanctions against Russia and retaliation from President Vladimir Putin exacerbate the euro area’s stuttering recovery from a record slump.

Poland probably grew 0.5 percent from the previous three months in the second quarter, less than half the pace of the January-March period, according to a Bloomberg survey. Czech expansion probably slowed to 0.3 percent from 0.8 percent, while Hungary’s decelerated to 0.7 percent from 1.1 percent, separate surveys show. The three nations report the data tomorrow.

The worst standoff in more than two decades between Russia and its former Cold War foes is curbing trade in the EU’s ex-communist members and threatening the euro region’s revival. As Russia responds to sanctions by banning food from the EU, Germany, the east’s No. 1 export market, is facing a first economic contraction in two years and crumbling confidence.

“The region will face more growth worries should geopolitical risks choke off the already stunted recovery in the euro area, which accounts for a significant share of central and eastern European exports,” Shweta Singh, a London-based economist at Lombard Street Research, said in an Aug. 11 report.

‘Vulnerable’ Region

With declines of as much as 1.4 percent, the Polish zloty, the Czech koruna and the Hungarian forint are among the five worst performers against the euro in the past month of 24 emerging-market currencies tracked Bloomberg. The ruble has weakened the most, losing 3.8 percent after the U.S. said pro-Russian rebels in Ukraine shot down a Malaysian jet, killing 298 people. Russia denies involvement in its neighbor’s crisis.

Eastern Europe is “vulnerable to a protracted conflict, especially in case of further escalation,” Morgan Stanley said yesterday in an e-mailed report in which it downgraded its recommendations for Hungarian and Romanian debt to underweight while maintaining a neutral position for Poland.

“These developments shift the risks around growth to the downside,” it said, citing “spillovers from Russia.”

EU governments agreed last month to bar Russia’s state-owned banks from selling shares or bonds in Europe, restrict the sales of equipment to modernize the oil industry and stem exports of military hardware. Russia slapped bans on an array of food from the EU and U.S. and threatened to target the automotive, shipping and aerospace industries.

Drugs, Loans

Spiraling sanctions are undermining eastern European efforts to boost exports to Russia, with trucks of cheese and meat from Lithuania and Estonia being turned back last week. Products on the banned list that Lithuania exported to Russia last year accounted for almost 2.5 percent of its gross domestic product, according to research company Capital Economics Ltd.

In Hungary, Prime Minister Viktor Orban has sought since 2010 to boost economic ties with Russia and reduce reliance on the euro area. He obtained a 10 billion-euro ($13.4 billion) loan from Russia this year to expand the Paks nuclear plant.

Russia is the largest export market of Gedeon Richter Nyrt., Hungary’s biggest drugmaker, which forecasts 2014 sales in Russia plunging 10 percent in ruble terms and sinking 35 percent in Ukraine in dollar terms, Chief Executive Officer Erik Bogsch said July 31. OTP Bank Nyrt., Hungary’s largest lender, posted a 48 percent drop in first-quarter profit, mainly driven by higher loan provisioning in Russia and Ukraine.

Job Losses

Czech companies may lose as much as 2.5 billion koruna ($120 million) annually because of the mutual sanctions imposed by the EU and Russia, Industry and Trade Minister Jan Mladek said Aug. 8. About 800 jobs may also be lost, he said.

Even so, sanctions haven’t had any “immediate, dramatic” impact yet on the economy Czech Prime Minister Bohuslav Sobotka said Aug. 8.

In Slovakia, Russia’s measures don’t target industries key to the economy, according to Lubomir Korsnak, an economist at UniCredit Bank AS in Bratislava. Russia’s share of the nation’s exports is about 4 percent versus 2.6 percent for Bulgaria.

“Direct linkages are still quite small” in the region and the state of Germany’s economy represents a bigger threat, Neil Shearing, an economist at London-based Capital Economics, said by phone. “I wouldn’t draw mechanical link on sanctions and weaker growth.”

For Poland, slower expansion last quarter “won’t be a one-off” and may be a prelude to more economic discomfort in the second half of the year, according to Piotr Bujak, an economist at PKO Bank Polski. Russian sanctions may cut 2014 growth by as much as 0.8 percentage point, he said.

Polish manufacturing activity contracted for the first time in 13 months in July, with new orders falling the most in more than a year among domestic and foreign customers, a purchasing managers’ index showed.

“Poland belongs to countries most hurt by Russian sanctions,” Jaroslaw Janecki, Warsaw-based chief economist at Societe Generale said yesterday by phone.

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