- The Washington Times - Monday, December 17, 2007

BRUSSELS — Growth, salaries and asset appreciation all are through the roof in the new EU countries of Eastern Europe, but so are current account deficits, inflation and imprudent lending, prompting alarm among some economists.

“Latvia has such a high current account deficit that it makes the U.S. deficit look like a walk in the park,” said Fredrik Erixon, director and co-founder of the European Center for International Political Economy in Brussels.

The 10 countries that joined the European Union in 2004 “don”t just risk overheating, they already have overheated,” he said in an interview with The Washington Times.

Eastern European countries have exhibited the sort of financial disruption and volatility that is typical of emerging markets at the peak of a business cycle, he said.

“What differs this one from other emerging markets we”ve seen is that we have this huge current account deficit,” Mr. Erixon added.

These deficits, though, have been masked by large foreign investments.

Romania”s $10 billion trade deficit last year was offset by $9 billion in foreign direct investment, according to the Financial Times. However, this year”s projected trade gap of $17 billion — almost 15 percent of Romania”s gross domestic product — won”t be covered by the $10 billion in investment that the country has seen.

Latvia”s trade deficit has been estimated at 20 percent of its GDP.

Mr. Erixon said that nearly all of the Central and Eastern European countries have problems with labor shortages, given the increases in demand — two factors that, with wage increases, drive inflation, he said.

Insufficient production has increased Romanian inflation from a 4 percent to 6 percent annual rate in the past four months, Mr. Erixon said.

Salaries have been growing from 8 percent to 25 percent a year throughout the region, and increased pay and easy credit have been mostly responsible for the region’s substantial import growth.

Romanians, though, are still only paid an average of $10,000 a year, one of the lowest averages in the bloc, so an implosion of the credit bubble seems inevitable.

“Some countries are a little blinded by economic growth,” Mr. Erixon said. “We are far beyond the point of being able to mitigate the circumstances with interest rates.

“Inflation is already a serious problem and it will get worse,” he said.

The only way to avert disaster in the region — still catching up from its spell under Soviet-era communism — is for local central banks to keep interest rates high, encouraging saving and slowing consumption growth to rebalance the trade deficit and lower financial risk, Mr. Erixon said.

“If a crisis occurs, we will have a situation where a lot of firms and households will have lots of debts … and creditors will not know what they”re worth, which could throw the country deep into recession or even depression.”

The high cost of imports also makes the region overly dependent on foreign investment, according to Mr. Erixon.

“If the world stops investing as much, Eastern Europe will be in great trouble. They must have foreign cash in order to pay for their imports,” he said.

If Eastern Europe does not monitor its growth carefully, it could lose the progress it has made in recent years and be left with a financial crisis, a slew of failed banks and no consumer confidence.

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