The real-estate consultants BH2 have come out with an interesting take on a much less written about currency crisis potentially facing four countries in the west Balkans: Serbia, Croatia, Macedonia and Albania.
You might ask, aren’t the Balkan economies too small to be a potential problem for Europe? There is that, but as the research arm of BH2 pointed out on Tuesday, all four of these nations are de facto euro economies. This is despite not being in the EU, and due to their practice of pegging their currencies to the euro.
Moreover, some of these nations will have very close economic ties to southern Europe via expatriate remittances; this is particularly the case for Greece and Italy. As the analysts explain (our emphasis):
As the economic problems unfolding in Greece and Italy contaminate the nations of the Western Balkans, these will be magnified by the trade linkages that exist within the region. These will in turn work back negatively into Greece and Italy due to their funding of the region. Southern Europe is quite literally at risk of economic seizure.
Ironically, due to the fact that West Balkan GDPs expanded less quickly than some comparative emerging European states, the analysts believe declines should ultimately be less severe there than the Baltics, for instance.
However, there are still some things to be mindful of, they say:
First, we anticipate that the West Balkan Four will experience larger currency reversals than those recorded by the Baltic Three (the specifics of which we cover in the next section). Second, the political consequences of economic and currency reversals in the Western Balkans are potentially far greater than the Baltics, not only due to the potential for the emergence of ethnic strife but because the former covers a population three times that of the latter.
Let us be clear, we base our Balkan GDP forecasts on significant currency corrections. The less that Balkan currencies correct, the greater the depth and the longer the period that the region will remain mired in recession.
Meanwhile, due to the West Balkans being positioned outside of the EU, the analysts think that the incentive to devalue will, in the end, be too great. This will be most painful for countries like Croatia, which – as you might have guessed already – were big in the area of euro-denominated loans.
As the analysts conclude:
In terms of how we expect the looming currency crisis in Emerging Europe to play out, we feel that one of the Baltic Three, most likely Latvia, will be first to concede its peg. When it does others are sure to follow. Indeed, Latvia could fall victim to more than one peg realignment. The key point is that with the fall of one pegged currency, it will not be long until another falls, then another. The reality is that once investor confidence is shaken by the breaking of a currency peg the fear of others triggers capital flight and so causes more pegs to go. Currencies around the region are presently being held aloft by a fragile confidence. Some readers will view our currency concerns as exaggerated.
They may point to the localised nature of falls in the Hungarian forint and Romanian leu, both EU economies. They may also point to the relatively short-lived and limited nature of the falls in these currencies, helped by the swiftness of intervention, notably by the IMF. Whilst we are perfectly aware of this, we would caution against complacency. Those currencies that have come under pressure are not formally managed; neither Hungary nor Romania operate a strict peg to the euro.
It is when a currency board or formal peg is compromised that contagion will start to be seen. For the Western Balkans, with their structurally weaker economies, currency falls could prove more significant than anywhere else across Emerging Europe.
As for which European banks might be exposed, here’s some of the banks BH2 notes as operating in the region:
Related links:
When all else fails: beg, steal and borrow – FT Alphaville
Latvia’s Achilles heel: deposits – FT Alphaville
Latvia – more parallels with Argentina - FT Alphaville
Poland: not so strong after all? - FT Alphaville