A path to recovery - UniCredit

1Q

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2021

CEE

Quarterly

Macro Research

Strategy Research

Credit Research

A path to recovery

January 2021

UniCredit Research page 2 See last pages for disclaimer.

January 2021 CEE Macro & Strategy Research

CEE Quarterly

“Your Leading Banking Partner in

Central and Eastern Europe

”

January 2021



CEE Quarterly

Contents

4 A path to recovery

14 CEE strategy: Solid risk appetite and yield in demand

65 Acronyms and abbreviations used in the CEE Quarterly

COUNTRIES

21 Bulgaria: Difficult start to recovery but strong medium-term outlook

25 Croatia: Rough journey to the light at the end of the tunnel

29 Czechia: Getting ready for a fiscal deluge

33 Hungary: Reassessing growth drivers

37 Poland: A swift recovery after the crisis

41 Romania: Looking for normality

45 Slovakia: More-resilient manufacturing to mitigate COVID-19 recession

47 Slovenia: Recovery amid COVID-19 uncertainty

EU CANDITATES AND OTHER COUNTRIES

49 Bosnia and Herzegovina: Smaller contraction in 2020 but slower recovery in 2021

51 North Macedonia: Slow recovery amid pandemic risk

53 Russia: Gradual recovery from shallow recession

57 Serbia: Recovery amid high uncertainty and risks

61 Turkey: A better policy mix

Published on 13 January 2021

Erik F. Nielsen Group Chief Economist (UniCredit Bank, London) 120 London Wall UK-London EC2Y 5ET

Imprint: UniCredit Bank AG UniCredit Research Am Eisbach 4 D-80538 Munich

Supplier identification: www.unicreditresearch.eu

Erik F. Nielsen, Group Chief Economist (UniCredit Bank, London) +44 207 826-1765, [email protected]

Dan Bucşa, Chief CEE Economist (UniCredit Bank, London) +44 207 826-7954, [email protected]

Artem Arkhipov, Head of Macroeconomic Analysis and Research Russia (UniCredit Russia) +7 495 258-7258 ext. -7558, [email protected]

Gökçe Çelik, Senior CEE Economist (UniCredit Bank, London) + 44 207 826-6077, [email protected]

Ariel Chernyy, Economist, Macroeconomic Analysis and Research Russia (UniCredit Russia) +7 495 258-7258 ext. 7562; [email protected]

Hrvoje Dolenec, Chief Economist (Zagrebačka banka) +385 1 6006-678, [email protected]

Dr. Ágnes Halász, Chief Economist, Head of Economics and Strategic Analysis Hungary (UniCredit Hungary) +36 1 301-1907, [email protected]

Ľubomír Koršňák, Chief Economist (UniCredit Bank Czech Republic and Slovakia) +42 12 4950-2427, [email protected]

Elia Lattuga, Co-Head of Strategy Research, Cross Asset Strategist (UniCredit Bank, London) +44 207 826-1642, [email protected]

Mauro Giorgio Marrano, Senior CEE Economist (UniCredit Bank, Vienna) +43 50505-82712, [email protected]

Anca Maria Negrescu, Senior Economist Romania (UniCredit Bank Romania) +40 21 200-1377, [email protected]

Kristofor Pavlov, Chief Economist (UniCredit Bulbank) +359 2 923-2192, [email protected]

Pavel Sobíšek, Chief Economist (UniCredit Bank Czech Republic and Slovakia) +420 955 960-716, [email protected]

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January 2021



CEE Quarterly

A path to recovery

Dan Bucsa Chief CEE Economist (UniCredit Bank, London) +44 207 826-7954 [email protected]

■ We expect economies in EU-CEE1 and in the western Balkans, to grow by around 3.3% in 2021

after slumping by close to 5% in 2020. A weak start to 2021, lower fiscal support, looser labor-

market conditions, delayed investment and external risks could result in an incomplete recovery.

■ GDP in EU-CEE and the western Balkans could return to pre-COVID-19 levels in 2022,

when growth could accelerate to more than 4%. Interest rates could be increased in

Czechia at the end of 2021 and in Poland and Romania in 2022.

■ EU support in the form of the European instrument for temporary Support to mitigate

Unemployment Risks in an Emergency (SURE), Next Generation EU (NGEU) and the

2021-27 EU budget could support the recovery in EU-CEE in 2022 and beyond.

■ IN EU-CEE, only the NBR is expected to cut rates in 2021. The CNB could be the first

central bank to increase rates in 2H21, followed by the NBP and the NBR in 2H22. Central

banks could purchase more bonds if state funding needs rise above current plans.

■ In Turkey, economic growth could accelerate from around 1.2% in 2020, to 2.9% in 2021 and

4% in 2022. Without structural reforms, most of the monetary tightening implemented in 2020

could be reversed in 2021 to spur lending and growth. This strategy is not sustainable, and

may only serve to put pressure back on the current account, the currency and rates.

■ After declining by almost 4% in 2020, the Russian economy could grow by 2.2-2.3% in

2021 and 2022. The central bank could keep the policy rate at 4.25% in 2021-22 if inflation

remains below the 4% target.

■ The COVID-19 pandemic will continue to affect CEE countries in 2021, with herd immunity

reached this year only if vaccination accelerates significantly. However, restrictions and

their negative economic impact could be much milder next winter than they are currently.

■ In 2021, government anti-pandemic support will decline compared to 2020 in all CEE

countries but Bulgaria. Indirect support could be less efficient than last year, unless

governments focus on grants, rather than loans to SMEs. Labor-market support may be

needed to avoid a large second wave of layoffs. Support could be withdrawn starting in 2H21.

■ Political noise will be a risk in Bulgaria and Czechia, where parliamentary elections will be

held in 2021.

■ Democracy in CEE would benefit if the US administration returns to multilateralism.

■ In the next two years, EU fund disbursements are unlikely to be tied to observing the rule of law.

2020 recession…

In 2020, GDP fell in all CEE countries but Turkey, where the economy grew by around 1.2%,

around 3pp below potential. In the rest of the region, the contraction probably ranged between

1.1% in Serbia to almost 4% in Russia and around 5% in EU-CEE and the western Balkans

(Chart 1). The health crisis caused by the COVID-19 pandemic led to a deeper slump in 2Q20

than that which occurred during the global financial crisis. Economies that are more reliant on

domestic demand and that benefitted from timely government support were more resilient than

the small, open economies in central Europe. The recovery in 3Q20 was proportional to the

2Q20 slump but incomplete. In 4Q20, GDP probably fell again in most CEE countries due to

lockdowns imposed in response to the second wave of the COVID-19 pandemic, both

domestically and by the CEE’s largest European economic partners. Yet, the tightness of

restrictions and compliance with rules varied widely across countries. Thus, Croatia, Czechia,

Slovenia, Slovakia, Hungary and Poland probably suffered more than Romania, Russia and

Serbia. Turkey’s sharp credit adjustment, made as the country attempts to tackle yet another

balance-of-payments crisis, might have led to a GDP slump in 4Q20, despite anti-pandemic

restrictions having not been tightened as much as in central Europe.

1EU-CEE refers to CEE countries that are members of the EU: Bulgaria, Croatia, Czechia, Hungary, Poland, Romania, Slovakia and Slovenia.


January 2021



CEE Quarterly

…followed by an incomplete recovery in 2021

The 2021 recovery is likely to be incomplete in all CEE countries but Poland, Serbia and

Turkey. In Poland, quick and targeted support prevented a deeper slump in 2020. Serbia will

continue to benefit from large public spending and Turkey from its region-topping potential

growth. That said, all three countries could end 2021 with negative or zero output gaps. At the

other extreme, the Croatian economy is unlikely to return to its pre-pandemic level of activity

before 2023, as the tourism sector could take longer to recover. In 2021, EU-CEE could grow

by around 3.3%, in line with the western Balkans, with both the Russian and the Turkish

economies recovering by close to 2.5% (Chart 2). We see five main reasons why a full

recovery from the 2020 slump will be postponed to 2022 or later in most CEE countries:

1. A weak start to 2021: After small or negative carryover into 2021, economic activity could

remain subdued in 1Q21 if restrictions are maintained throughout the winter. Countries

whose governments reacted indecisively in 4Q20 (Bulgaria, Romania, Russia and Serbia)

could eventually tighten restrictions in 1Q21, leading to a GDP drop during the winter.

2. Lower fiscal and monetary support than in 2020: We expect budget deficits to decline

in all CEE countries but Bulgaria, where anti-crisis support might increase in 2021

compared to last year. Budget shortfalls could narrow less than in official forecasts, even

after governments revised them at the end of 2020. In our opinion, most CEE authorities

are underestimating economic risks from the current pandemic wave. Some of the most

successful support schemes introduced in 2020 might be extended, such as those

backing furlough and part-time work, as well as loan repayment moratoriums. Deferred

taxes could be collected only partially and with a delay. Government guarantees will

remain available for corporate borrowers.

3. Weaker labor-market conditions and their negative impact on consumer spending:

Lengthy restrictions are likely to continue to affect employment, especially in leisure

services and manufacturing. In addition, wage bargaining will mostly occur in 1Q21, when

restrictions and weak foreign demand could lead to much lower wage growth than in

previous years. The first official announcements from car companies in EU-CEE suggest

that wages and bonuses will rise in single digits in 2021 and 2022, compared to 15-25%

annual growth rates in past years. Car manufacturing is a bellwether for at least half of

manufacturing wages in EU-CEE. There has already been a marked reduction in

household plans to make large purchases. We expect a recovery in household investment

in 2H21, at the earliest.

4. Postponed corporate investment: Companies may postpone investment as well, despite

sizeable credit and tax support from governments. While large companies could explore

opportunities to expand their market share or increase productivity, SMEs are less capable

of spending. They started the COVID-19 crisis in a significantly weaker position than their

eurozone counterparts, and preferential loans granted in 2020 increased their leverage to a

point where additional borrowing would be difficult to sustain. Several CEE governments

will hand out grants to SMEs, partly co-financed with EU money, to help them weather a

protracted reduction in demand. However, many SMEs may use grants to repay some of

their debt before venturing into new investment. Besides productive investment,

construction is also likely to suffer from a lack of orders at least until mid-2021. The most

affected will be housing and offices.

5. External demand outlook unclear: The outlook for external demand remains uncertain,

especially when it comes to car exports, tourism and Brexit. The high import content of

exports and muted domestic demand could offset a weak contribution from exports to

GDP in 1H21. Starting in 2H21, exports could rise throughout CEE if growth rebounds in

the eurozone and globally.

January 2021



CEE Quarterly

CHART 1: RECESSION IN ALL CEE COUNTRIES BUT TURKEY IN 2020…

CHART 2: …FOLLOWED BY INCOMPLETE RECOVERY IN 2021

Source: Eurostat, national statistical offices, UniCredit Research

Financial support from the EU is expected to fuel recovery in EU-CEE… …and accelerate growth to above 4% in 2022

The bright spot in the EU-CEE economic outlook for 2021 is EU support in the form of several

programs disbursing loans and grants (Chart 3). The first of these loan disbursements has

already arrived from SURE2, with funding already approved for all EU-CEE countries.

Together with NGEU loans, they are expected to replace at least 25% of external issuance in

2021, with grants starting to arrive towards the end of 2021. Together with late disbursements

from the EU’s 2014-20 multiannual financial framework (MFF), these transfers and loans

should smooth the transition to disbursements from the 2021-27 EU budget by ensuring that

public investment does not plummet in 2021-22. We expect EU funding to add 0.1-0.7pp to

GDP growth in 2021, with its smallest contribution in Czechia and its largest in the Balkans3.

Disbursements from NGEU and the MFF will rise gradually in the coming years. This should

set the stage for a further recovery in 2022, when GDP growth could exceed 4% (Chart 4). If

the negative effects of the pandemic are contained, the private sector could increase

spending, while exports may recover as the eurozone and global economies rebound as well.

This would allow labor-market conditions to tighten again, eliminating most scarring effects by

the end of 2022.

CHART 3: LARGE TRANSFERS FROM THE EU… CHART 4: …WILL BOOST THE RECOVERY IN 2022 AND BEYOND

Source: national statistical offices, European Commission, UniCredit Research

2The European instrument for temporary Support to mitigate Unemployment Risks in an Emergency

3We are less optimistic than the European Commission in our assessment of the potential impact of EU funding on growth in 2021.

-15.0 -10.0 -5.0 0.0 5.0 10.0

Czechia

Russia

Turkey

Slovakia

Bulgaria

Slovenia

Poland

Romania

Hungary

Serbia

Croatia

Private consumption Public consumption Fixed investment

Net exports Inventories, error GDP

yoy (%),pp

-4.0 -2.0 0.0 2.0 4.0 6.0

Czechia

Russia

Turkey

Slovakia

Bulgaria

Slovenia

Poland

Romania

Hungary

Serbia

Croatia



yoy (%),pp

0.0 10.0 20.0 30.0 40.0 50.0

Czechia

Poland

Slovenia

Romania

Slovakia

Hungary

Bulgaria

Croatia

SURE NGEU loans

NGEU grants EU budget 2021-27

% of avg. GDP for 2021-27

-4.0 -2.0 0.0 2.0 4.0 6.0 8.0

Czechia

Russia

Turkey

Slovakia

Bulgaria

Slovenia

Poland

Romania

Hungary

Serbia

Croatia



yoy (%),pp

January 2021



CEE Quarterly

The negative impact of COVID-19 could last throughout 2021

The second wave of the pandemic could require tighter restrictions in 1Q21

We expect the COVID-19 pandemic to further affect CEE economies in 2021. While

vaccination has started in EU-CEE and Russia (Chart 5) and is picking up, countries need to

accelerate immunization. At the current pace, no CEE country will come close to vaccinating

70% of its population in 2021. Significantly more efforts would be needed in Poland and

Romania, and especially in Bulgaria, Czechia and Russia to make sure that a large-enough

percent of the population receives the vaccine before the end of 2022.

Even if herd immunity is reached earlier due to rising infections, it is likely that the epidemic

will continue to affect lives and economic activity throughout 2021. The best hope for CEE

countries is that restrictions are significantly milder next winter compared to the current one.

Until then, CEE countries face several problems in the second wave of the pandemic4, such

as poor official communication, the lack of test-trace-isolate frameworks, low compliance with

restrictions, high usage of intensive care units and a shortage of health care workers5. In

addition, most CEE countries continue to test insufficiently and, as a result, the official

assessment of the viral spread is inadequate. Daily case estimates from Imperial College

London (ICL) are 2-8 times higher than officially communicated daily cases. The ICL

estimates correlate strongly with the number of deaths (Chart 6) and are a better predictor of

fatalities than officially published infection numbers.

While most CEE governments plan to remove restrictions in February, new viral strains could

delay the exit from lockdowns and even require tighter restrictions before the spring. These, in

turn, would further weigh on economic growth, employment and wage growth.

CHART 5: UNEVEN START FOR ANTI-COVID VACCINATION CHART 6: ICL ESTIMATES CORRELATE WITH COVID DEATHS

Source: CEE governments, Oxford University, Imperial College London, UniCredit Research

Governments are expected to maintain some anti-crisis support in 2021 Timeliness of disbursements could improve further

The risk of further restrictions and economic disruption require CEE governments to maintain

some support measures in 2021. While the size will not match what was spent in 2020

(Tables 1 and 2), the implementation of last year’s fiscal and financial packages carry

valuable lessons for authorities.

The most important lesson is that timeliness may be more important than size. Poland is the

most relevant example. The government’s decision to dole out most financial support through

the state-owned sovereign investment fund (PFR) and development bank (BGK) helped the

Polish economy weather the downturn better than its central European peers. At the other

extreme, Czechia pledged the largest indirect support package in the region, but managed to

implement only 7% of it. The good news is that most CEE countries have improved the

channeling of funding to the private sector, be it directly or via the banking sector, and

disbursements could become more efficient still in 2021.

4 While some prefer to call it the third wave, we believe that the second wave never ended in CEE and the decline in the number of cases was mostly due to fewer

tests conducted before Christmas and during the winter holidays. The exception is Czechia, where a tight lockdown reduced the number of infections in 4Q20. However, the number of cases rose rapidly once restrictions were eased. 5 For details, please see the EEMEA Country Note – Long COVID risk in CEE from policy inaction, 10 December.

0.0

0.2

0.4

0.6

0.8

1.0

1.2

BG HR CZ HU PL RO RU RS SK SI TR

Latest

World average

SARS-CoV-2 vaccination rates (vaccines per 100 inhabitants)

BG

HRCZ

HU

PL

RO

RU

RS

SK

SI

TR0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

18.0

0.0 0.5 1.0 1.5 2.0 2.5 3.0

De

ath

s p

er

mill

ion

in

ha

bita

nts

Baseline ICL estimate for daily infections per thousand inhabitants

data as of 25 December 2020 (ICL) and 5 January 2021 (deaths)

https://www.research.unicredit.eu/DocsKey/emergingmarkets_docs_2020_178758.ashx?EXT=pdf&KEY=l6KjPzSYBBGzROuioxedUNdVqq1wFeRoeQulRnxylp-Itdx5JM8T3w==&T=1

January 2021



CEE Quarterly

Labor-market support is needed throughout the second pandemic wave SMEs better targeted with grants than loans 2021 support packages are too heavy on new lending Direct support could increase if the second wave has significant economic costs

The second lesson is that labor-market support may have the farthest reaching effects of all

support measures. Prompt support for furlough and part time work blunted the rise in

unemployment, but could not prevent employment from falling in 3Q20 even in sectors such

as industry that rebounded strongly. Yet both employment and consumer expectations fell

much less than during the global financial crisis, probably helped by public safety nets.

Maintaining labor-market support in 2021 could be paramount for the recovery, especially if a

protracted second wave of the pandemic leads to another round of layoffs this winter.

The third lesson is that SMEs have limited room to further increase leverage. The take-up of

subsidized and/or guaranteed loans slowed towards the end of 2020 in most CEE countries.

For small companies saddled with debt and facing an uncertain future, grants may be a better

option than more loans. EU funding from NGEU and SURE could supplement national

resources in supporting hard-hit sectors (especially services) but also companies in sectors

prioritized by the European Commission, such as IT, environment and energy transition.

Taking these lessons into account, 2021 pandemic support packages seem too heavy on

lending incentives and guarantees. This is especially true in Hungary, where SMEs were

more leveraged than their regional peers even before the pandemic started. More subsidized

lending may achieve little in reducing corporate borrowing costs or spurring growth. The other

EU-CEE countries could use a mix of loans and grants, with Poland and Romania probably

favoring the latter. Russia and Turkey pledged the least indirect support in CEE. The CBR is

already subsidizing funding for banks and appetite for borrowing is very healthy in an

economy that missed out on the CEE credit boom of the mid-2010s. On the other hand, the

CBR is looking to slow credit growth, fearing that current growth rates could threaten financial

stability. The CBRT has also moved to cool down the credit boom it fueled in 2020. The

adjustment will continue at least in 1H21, leading to a negative credit impulse.

With the exception of Bulgaria, direct support will be smaller than in 2020, in some cases

significantly so. In a repeat of 2020, many governments probably underestimate the negative

impact the pandemic will have on their economies. Others plan to reduce their budget deficits

and cap public debt before sovereign ratings are threatened. Either way, we expect all EU

countries to ramp up direct support in case of need, with the funding coming partly from the

EU (in EU-CEE and the western Balkans), government reserves (in Russia) and central bank

purchases (in Turkey). If economies start to recover in 2Q21, we expect government support

to be withdrawn in the second half of the year.

TABLE 1: OFFICIAL PANDEMIC SUPPORT IN 2020 TABLE 2: PANDEMIC SUPPORT PLEDGED FOR 2021

(% of GDP) Direct s upport

Indirect support

Total support

Bulgaria 3.2 0.2 3.4

Croatia 5.1 2.4 7.5

Czechia 3.9 1.2 5.1

Hungary 4.4 1.0 5.4

Poland 2.4 4.8 7.2

Romania 1.8 3.7 5.5

Russia 2.0 1.0 3.0

Slovakia 1.8 0.7 2.5

Slovenia 4.6 0.4 5.1

Serbia 7.5 3.2 10.7

N. Macedonia

Turkey 4.9 5.5 10.4

(% of GDP) Direct

support Indirect support

Total support

Bulgaria 4.0 2.0 6.0

Croatia 1.1 2.3 3.4

Czechia 2.0 0.0 2.0

Hungary 0.1 3.7 3.7

Poland 1.0 1.4 2.4

Romania 1.5 1.6 3.1

Russia 0.7 0.2 0.9

Slovakia 1.1 1.0 2.1

Slovenia 3.0 1.8 4.8

Serbia 0.0 0.5 0.5

N. Macedonia 0.1 0.9 1.0

Turkey 0.4 0.1 0.5

Source: CEE governments, UniCredit Research

January 2021



CEE Quarterly

Inflation is expected to be inside target ranges in 2021-22

Rate hikes are possible in Czechia in 2H21 and in Poland, Romania and Russia in 2H22 Turkey is likely to reverse monetary tightening in 2021

In 2021, low imported inflation, little scope for currency depreciation and weak domestic demand

could keep inflation safely inside target ranges in EU-CEE, Russia and Serbia

(Chart 7). Inflation is expected to rebound in 2022, without leaving target ranges in any of the

aforementioned countries. In EU-CEE, only the National Bank of Romania is expected to deliver

limited rate cuts from here on, while the Czech National Bank is contemplating rate hikes in

2021 if fiscal spending fuels inflationary pressure. By 2H22, the Polish, Romanian and Russian

central banks might consider increasing interest rates without giving up on negative real interest

rates. However, the CBR could leave the policy rate at 4.25% for longer if inflation remains

below the 4% target and economic growth does not accelerate above potential.

Turkey’s permanent target miss could extend to the coming years. We expect the CBRT to

reverse most of its rate hikes from 2020 in the second half of 2021, once disinflation resumes. In

the absence of structural reforms, the authorities may revert to the credit-driven growth model

that has led to several balance-of-payments crises – combined with TRY depreciation and sharp

swings in GDP dynamics – in the past decade. Such growth spurts are shorter, and the effect of

credit booms increasingly smaller, due to high leverage in the private sector. As a result, the

Turkish economy could grow below potential in 2021-22, which would revive the specter of

higher unemployment and populist spending ahead of 2023 parliamentary elections.

CHART 7: INFLATION INSIDE TARGET RANGES IN ALL COUNTRIES BUT TURKEY

CHART 8: 2020 BOND PURCHASES GIVE AN INDICATION OF THE SCOPE FOR CENTRAL BANK PURCHASES IN 2021

*CNB stands for the Croatian National Bank. Source: statistical offices, central banks, ministries of finance, UniCredit Research

CEE central banks could purchase more bonds in 2021

Some CEE central banks could continue bond purchases in 2021 due to high budget deficits.

We believe that purchases in 2020 (Chart 8) are a good indicator of how active central banks

may be in 2021. Besides the NBH, which still has around HUF 1.1tn in bonds to buy before

reaching its self-imposed limit, the Croatian and Serbian central banks are the likeliest to buy

bonds, followed by the NBP. However, actual purchases could be smaller than they were in

2020 as budget deficits decline. They could also target the longer end of the yield curve more

than they did in 2020, which is what the NBH is doing.

Elections could trigger fiscal populism in Bulgaria and Czechia The return of multilateralism is good news for democracy in CEE

Elections will add to noise in other CEE countries, with Bulgaria and Czechia holding

parliamentary elections in 2021. While populist fiscal spending may rise ahead of these polls,

both countries start from a very strong fiscal position. Strong institutions in Czechia and the

process of euro adoption in Bulgaria could deter legislation that would affect the rule of law.

The election of Democratic candidate and former Vice President Joe Biden as the next US

president could lead to more-targeted US involvement in the region if Mr. Biden follows in

Barack Obama’s footsteps. That said, we do not expect crippling sanctions to be placed on

Russia, while Turkish authorities could try to appease concerns in Washington to avoid conflict

with the incoming US administration.

-2

0

2

4

6

8

10

12

14

SI SK PL HR RS CZ BG BH RO RU HU TR

2020E 2021F 2022F Inflation targetannual inflation (eop, %)

0

1

2

3

4

5

6

CNB* NBP NBH NBS CBRT NBR

Other bonds

Government bonds

bond purchases since the start of the crisis, % of GDP

January 2021



CEE Quarterly

For EU-CEE, a return to multilateralism may strengthen democratic values while dampening the

prospects of those politicians who have tried to escape the process of further European

integration. None of the small, open economies in EU-CEE can afford to leave the EU, a reality

that could be made all the more clear by the effects of Brexit.

EU fund disbursements may not be tied to the rule of law in the next couple of years

The deal struck by EU governments to adopt the NGEU and the 2021-27 EU budget gave some

respite to Hungarian and Polish governments in their attempt to avoid linking EU fund

disbursements to observing the rule of law. However, this respite might be temporary and will

depend on how quickly European authorities define the rule of law and the European Court of

Justice (ECJ) rules whether the link between financial transfers and rule-of-law conditionality is

in agreement with European treaties. It might be much easier to back such conditionality for

NGEU than for the EU budget. Thus, the ruling could depend on whether the ECJ decides to

treat the two financing frameworks together. Thus, Hungary and Poland may have bought

themselves up to two years and a resolution could be issued close to the Hungarian

parliamentary elections expected in spring 2022.

In the medium term, additional reforms to take decisions in the European Council by a qualified

majority, rather than unanimously, and for European authorities to have a bigger say in national

legislative processes may be unavoidable if the EU does not choose the path of multi-speed

European integration.

January 2021



CEE Quarterly

OUR GLOBAL FORECAST

GDP growth, % CPI (Avg), % Policy interest rate** 10Y bond yield (EoP),% Exchange rate (LC vs. US)

2020E 2021F 2022F 2020E 2021F 2022F 2020 2021F 2022F 2020 2021F 2022F 2020 2021F 2022F

Eurozone -7.4 3.0 4.5 0.3 0.7 1.6 -0.50 -0.50 -0.50 -0.26 0.00 0.20 1.22 1.28 1.32

Germany -4.8* 3.3* 4.2* 0.4 0.9 1.7 -0.57 -0.30 -0.10

France -9.5 3.2 5.1 0.5 0.5 1.5

Italy -9.2 2.8 4.4 -0.1 0.1 0.8 0.55 0.85 1.40

UK -11.2 4.3 6.3 0.9 1.4 1.9 0.10 0.10 0.10 1.37 1.36 1.40

USA -3.8 1.8 3.5 1.2 1.9 2.1 0.25 0.25 0.25 0.91 1.30 1.75

Oil price, USD/bbl 43 41 50

*Non-wda figures. Adjusted for working days: -5.2% (2020), 3.3% (2021) and 4.2% (2022); **Deposit rate for ECB Source: UniCredit Research

THE OUTLOOK AT A GLANCE

Real GDP (% change) 2019 2020E 2021F 2022F

CPI (EoP) (% change) 2019 2020E 2021F 2022F

C/A balance (% GDP) 2019 2020E 2021F 2022F

EU-CEE 3.8 -4.9 3.3 4.1

EU-CEE 3.4 2.1 2.3 2.9

EU-CEE -0.4 1.1 0.6 0.4

Bulgaria 3.7 -5.5 2.7 4.5

Bulgaria 3.8 0.7 2.5 2.6

Bulgaria 3.0 2.7 3.2 3.4

Czechia 2.2 -6.4 2.0 4.9

Czechia 3.2 2.3 2.3 2.7

Czechia -0.3 3.6 2.7 1.2

Hungary 4.6 -5.6 4.1 4.3

Hungary 4.0 2.6 3.6 3.7

Hungary -0.2 0.0 -0.1 1.1

Poland 4.6 -3.0 3.5 3.1

Poland 3.4 2.3 1.9 3.2

Poland 0.5 3.0 1.5 1.4

Romania 4.2 -5.5 3.7 5.0

Romania 4.0 2.2 2.9 2.6

Romania -4.7 -4.9 -4.7 -4.8

Croatia 2.9 -9.1 4.6 4.8

Croatia 1.4 0.3 2.0 2.0

Croatia 2.7 -2.9 0.7 0.5

Russia 2.0 -3.9 2.3 2.2

Russia 3.0 4.9 3.5 3.5

Russia 3.9 2.5 1.0 1.8

Serbia 4.2 -1.1 4.2 4.2

Serbia 1.8 1.3 2.1 2.4

Serbia -6.9 -5.7 -5.5 -5.5

Turkey 0.9 1.2 2.9 4.0

Turkey 11.8 14.6 10.8 11.5

Turkey 0.9 -5.3 -3.0 -2.8

Extended basic balance (% GDP) 2019 2020E 2021F 2022F

External debt (% GDP) 2019 2020E 2021F 2022F

General gov’t balance (% GDP) 2019 2020E 2021F 2022F

EU-CEE 2.5 4.1 3.7 3.7

EU-CEE 66.6 72.5 69.4 66.4

EU-CEE -1.1 -7.4 -5.9 -3.9

Bulgaria 5.5 6.3 7.3 8.7

Bulgaria 58.0 66.1 65.2 63.2

Bulgaria 2.1 -3.7 -5.6 -2.8

Czechia 1.3 4.5 4.2 2.8

Czechia 76.2 82.4 80.7 81.4

Czechia 0.3 -7.0 -7.8 -6.0

Hungary 1.3 3.8 4.4 3.6

Hungary 91.0 111.5 104.5 97.6

Hungary -2.0 -9.2 -6.0 -2.7

Poland 4.1 6.9 4.8 5.1

Poland 59.7 58.0 52.0 47.1

Poland -0.7 -6.0 -4.6 -3.2

Romania -1.5 -2.4 -1.2 -1.0

Romania 33.3 42.9 46.5 46.9

Romania -4.3 -9.8 -7.0 -4.0

Croatia 6.7 2.5 5.8 5.7

Croatia 75.3 88.1 82.8 79.2

Croatia 0.4 -8.0 -3.5 -2.6

Russia 4.5 1.5 0.4 1.1

Russia 28.5 31.1 28.7 28.4

Russia 1.8 -5.0 -3.4 -1.8

Serbia 0.8 -0.8 0.3 0.3

Serbia 61.5 64.4 66.7 63.2

Serbia -0.2 -8.0 -3.5 -2.0

Turkey 1.7 -5.1 -2.3 -1.9

Turkey 57.1 62.0 59.4 58.3

Turkey -5.3 -5.6 -5.4 -5.1

Gov’t debt (% GDP) 2019 2020E 2021F 2022F

Policy rate (%) 2019 2020 2021F 2022F

FX vs. EUR (EoP) 2019 2020 2021F 2022F

EU-CEE 44.1 56.8 58.7 58.9

EU-CEE

EU-CEE

Bulgaria 19.9 25.0 28.3 29.1

Bulgaria - - - -

Bulgaria 1.96 1.96 1.96 1.96

Czechia 30.2 38.1 44.4 47.3

Czechia 2.00 0.25 0.50 0.75

Czechia 25.4 26.2 25.6 25.0

Hungary 63.7 84.6 85.4 83.4

Hungary 0.90 0.60 0.60 0.60

Hungary 331 365.1 353 360

Poland 45.4 58.7 58.5 58.2

Poland 1.50 0.10 0.10 1.00

Poland 4.26 4.61 4.45 4.45

Romania 35.3 46.8 49.4 49.9

Romania 2.50 1.50 1.00 1.00

Romania 4.78 4.87 4.95 5.05

Croatia 72.8 89.6 87.9 84.9

Croatia - - - -

Croatia 7.44 7.53 7.53 7.53

Russia 12.5 18.3 19.4 20.8

Russia 6.25 4.25 4.25 4.50

Russia 69.3 90.7 90.2 95.0

Serbia 52.9 59.0 59.4 58.2

Serbia 2.25 1.00 1.00 1.00

Serbia 117.6 117.6 117.9 118.3

Turkey 32.6 40.0 40.7 41.4

Turkey 12.00 17.00 12.00 12.00

Turkey 6.67 9.08 10.11 11.67

Source: National statistical agencies, central banks, UniCredit Research


CEE Quarterly


EM VULNERABILITY HEATMAP

BG CZ HR HU PL RO RS RU SK TR UA MX BR CL SA ID IN CN AG

External Liquidity

Current account (% of GDP) 0.7 2.4 -1.5 -0.9 2.8 -4.7 -5.4 2.3 -1.3 -4.2 4.2 1.4 -0.8 0 0.8 -1.3 1.3 1.5 1.6

Extended Basic Balance (% of GDP) 3.2 4.0 3.1 1.8 6.6 -2.3 0.2 1.3 0.6 -3.6 4.6 3.1 1.1 0.6 0.2 -0.2 3.0 2.0 1.9

FX Reserves coverage (months of imports) 9.8 9.1 8.9 2.9 5.2 5.0 6.8 14.8 - 2.2 4.7 5.5 18.9 6.5 6.9 8.9 10.1 16.3 7.9

External Debt (excl.ICL, % of GDP)* 36.8 75.2 67.6 54.3 40.6 38.0 65.0 20.7 92.1 59.3 79.8 44.7 69.7 83.0 51.0 37.9 21.4 16.1 57.8

Short-term debt (% of GDP) 12.3 41.1 26.4 10.8 8.2 6.5 4.2 4.0 43.9 18.3 10.8 4.0 5.2 7.9 9.1 4.1 7.8 9.1 8.1

REER (Index, 2010=100) 106.8 99.4 101.2 83.5 91.2 98.3 126.2 72.3 - 51.6 91.2 80.5 144.1 83.9 90.3 90.8 107.8 123.3 -

Domestic Finances

Corporate debt (% of GDP) 47.3 52.3 65.3 56.3 44.6 38.8 46.2 58.8 54.4 77.6 60.5 42.3 45.2 94.8 58.6 38.8 47.3 162.5 15.2

Household Debt (% of GDP) 23.7 39.3 39.0 22.6 35.2 21.1 20.5 19.1 45.6 17.8 5.7 17.1 31.4 37.6 35.6 16.6 13.5 59.1 5.0

Nonresident holdings of gov.debt (% total) 1.0 33.9 - 28.9 17.0 19.5 26.1 25.6 48.1 5.2 - 22.2 11.3 - 29.7 30.0 - 9.5 -

Banking System

Credit Impulse (% of GDP) -0.7 -0.1 3.1 0.6 -2.1 -1.0 1.9 4.3 3.9 12.7 9.7 -0.6 2.4 -1.4 -2.1 -3.2 1.2 8.5 1.5

Loans/deposit ratio (%) 70.7 63.7 79.1 66.6 82.5 68.9 88.1 89.8 102.8 104.2 143.4 92.3 101.9 111.4 99.1 90.6 111.2 75.5 130.8

NPL (% of total loans) 8.6 2.4 7.6 2.8 3.8 3.9 3.4 6.1 2.8 4.0 45.6 2.0 2.2 1.6 4.0 3.2 8.4 1.9 4.8

Domestic Banks CAR (%) 22.9 21.5 25.0 17.9 17.9 22.8 22.4 12.8 19.7 19.4 21.9 17.2 16.3 14.3 15.9 23.8 14.5 14.5 22.0

Domestic Banks RoE (%) 6.9 8.6 5.5 3.8 7.0 10.5 7.7 16.7 3.6 11.3 26.2 13.4 14.7 7.3 16.6 10.4 0.1 12.1 -

*External debt incl ICL for CZ, RS, TR, MX, CL and SA Source: Haver, Bloomberg, National Statistics Offices, Central Banks, IMF, BIS, UniCredit Research

Legend

Low vulnerability

Moderate vulnerability

Significant vulnerability

High vulnerability


CEE Quarterly


EM VULNERABILITY HEATMAP (CONTINUED)

BG CZ HR HU PL RO RS RU SK TR UA MX BR CL SA ID IN CN AG

Policy

Policy Rate, nominal (%) - 0.25 - 0.60 0.10 1.50 1.00 4.25 0 17.00 6.00 4.25 2.00 0.50 3.50 3.75 4.00 4.35 38.00

Real policy rate (%) - -2.3 - -2.0 -2.8 -0.7 -0.5 -0.7 -1.5 2.1 2.1 0.9 -2.2 -2.2 0.3 2.1 -2.8 0.6 1.6

Real Money market rate (%) - -2.2 -1.8 -1.9 -2.8 -0.3 -0.7 0 -2.0 2.9 1.7 1.0 -3.7 -3.3 0.1 2.4 -3.1 4.5 -3.8

Headline inflation (% yoy) 0.4 2.7 -0.2 2.7 3.0 2.1 1.7 4.9 1.5 14.6 3.8 3.3 4.3 2.7 3.2 1.6 7.0 -0.6 35.8

Core Inflation (% yoy) 0.6 2.4 0.8 3.9 4.3 3.4 1.9 3.9 1.4 14.3 3.9 3.7 2.0 2.3 3.3 1.8 5.7 0.4 37.8

GG Fiscal balance (% of GDP) -2.3 -4.0 -3.1 -4.6 -5.5 -8.5 -7.5 -5.1 -4.7 -3.9 -8.5 -2.5 -13.7 -7.5 -10.7 -5.0 -6.3 -5.5 -8.9

GG Primary balance (% of GDP) -1.8 -3.2 -1.0 -2.3 -2.6 -7.1 -5.6 -4.1 -3.4 -1.2 - 0.7 -8.9 -6.6 -6.2 -3.0 -2.9 n.a. -

Government Debt (% of GDP) 24.6 38.4 85.3 74.3 51.6 44.0 57.6 18.3 60.2 42.6 79.8 48.2 80.8 49.6 75.2 60.2 56.2 63.0 70.4

Markets

External Debt Spread (10Y, bp)** 57.7 20.0 105.4 92.2 47.7 181.5 153.9 126.3 43.2 454.0 504.2 110.0 210.5 53.5 298.6 150.3 105.0 -6.9 -

Local Currency Curve (5Y, %)*** 0.2 0.8 0.4 1.5 0.4 2.6 2.6 5.4 -0.6 13.4 4.9 4.8 5.1 1.6 8.0 5.2 5.4 2.9 52.0

Local currency bond spread (2s10s)**** 62.6 115.2 44.9 117.3 117.0 68.5 139.7 150.0 13.9 -142.0 285.7 141.0 261.5 397.0 283.0 192.7 151.9 56.6 -270.2

CDS (10Y, bp) 61 44 122 87 89 117 149 140 71 328 384 140 225 85 300 116 128 30 1400

FX 3m implied volatility (%) - 5.6 4.0 7.2 6.4 2.3 - 15.4 - 16.9 - 15.0 20.3 13.8 17.2 10.2 5.9 5.8 15.0

Structural*****

IBRD Doing Business 61 41 51 52 40 55 44 28 45 33 64 60 124 59 84 73 63 31 126

WEF Competitiveness Ranking 49 32 63 47 37 51 72 43 42 61 85 48 71 33 60 50 68 28 83

Unemployment (%) 4.9 2.9 6.7 4.4 3.4 5.1 9.5 6.3 7.2 12.7 9.3 4.4 14.3 10.8 30.8 7.1 6.5 5.2 11.9

** Spread between 10Y EUR government bond yields and the corresponding German government bond yields for BG, HR, HU, PL, RO. For CZ, the spread refers to the 5Y yield. For the other countries, the spread is computed with respect to US government bond yields

*** Data for UA refer to the generic USD bond. Data for HR refer to the 4Y bond

**** Data for UA refer to the generic USD bond. Data for CL refer SA to the spread between 8Y and 2Y bond and 9Y and 2Y bond respectively. Data for HU refer to spread between 10Y and 3Y bond. *****IBRD and WEF indicators for 2018

Source: Haver, Bloomberg, National Statistics Offices, Central Banks, IMF, BIS, UniCredit Research

Legend

Low vulnerability

Moderate vulnerability

Significant vulnerability

High vulnerability

<date>


CEE Quarterly


CEE strategy: Solid risk appetite and yield in demand

Elia Lattuga Co- Head of Strategy Research, Cross Asset Strategist (UniCredit Bank, London) +44 207 826-1642 [email protected]

■ As markets shift focus towards economic recovery, and while monetary policy at key central

banks remains accommodative, financing conditions on global markets should help fuel the

performance of risky assets and keep yield hunting alive. Developments pertaining to the

pandemic and to long-term US yields are key sources of risk that should be monitored.

■ CEE assets are set to benefit from negative net supply in the eurozone, the yield hunting

environment and positive developments in bond supply. Higher-yielding exposure might be

preferred, but portfolio flows might also sustain higher-rated issuers.

Asset performance in 2020 With large swings in asset performance and unprecedented stimulus by fiscal and monetary

authorities, 2020 has been an extremely volatile year for global markets. At the end of the year,

the MSCI World Index was 14% higher than it was a year earlier after posting a staggering 68%

rally from March lows. In spite of some upward pressure at the long end of the curve, 10Y UST

yields are still 80bp below their YE 2019 levels. Credit spreads across both US and European

markets have been tightening steadily in recent months, and broad indices have returned to

levels that prevailed a year ago. A return of implied volatility on US equities in the 20 points area

and the weakening of the USD, which lost over 10% (DXY) from March peaks, also supported a

general easing of financial conditions. EM bonds benefited from such improvement and posted

a sharp tightening in credit spreads. However, this was not enough to fully recover from earlier

widening, leaving spreads in broad indices a tad wider than they were a year ago. In total-return

terms, however, EM bonds managed to close 2020 with a positive performance. Across several

segments of the market, total returns exceeded 5%, a very good performance when one

considers the extent of 1Q20 losses. LatAm and lower-rated buckets across EM bond indices

underperformed, displaying, in some cases, sharp losses that were heavily affected by the large

drop recorded in 1Q. A selective approach paid off during volatile times. EMEA did well,

especially across hard-currency indices.

Investors focus on economic recovery over the medium term

2021 started on a positive note for risky assets, after a very strong performance in the latter part

of 2020. Uncertainty surrounding short-term development in contagion curves is still high, and a

number of countries have stepped up restrictions in recent weeks and this bodes ill for GDP

growth over 1Q, but risk appetite has remained solid. Markets are taking a constructive stance

with respect to the effectiveness and rapid distribution of COVID-19 vaccines and treatments,

which should limit the need for additional lockdowns down the road and pave the way for a

sustainable recovery in 2021.

CHART 1: TOTAL RETURNS (USD) CHART 2: FINANCING CONDITIONS

Source: Bloomberg, UniCredit Research

-40%

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-10%

0%

10%

20%

30%

40%

LatAm Asia EMEA LatAm Asia EMEA A Baa Ba B Caa 1-3Year

7-10Year

LC HC-USD HC-USD HC-USD

4Q20 3Q20 2Q20 1Q20

2019 2018 2020

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Jan 17 Oct 17 Jul 18 Apr 19 Jan 20 Oct 20

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10Y USD RY DXY VIX US HY


<date>


CEE Quarterly


Moreover, lingering support by central banks and the hunt for yield should contribute to limiting

the impact of negative growth news in the short term while keeping investors focused on

economic recovery over the medium term. Indeed, central banks ended 2020 by conveying a

clear message of support for financial markets and will act to avoid that a tightening in financial

conditions might derail progress before an economic recovery gains pace and inflation outlooks

improve (which might still be several quarters off). Both the Fed and the ECB are expected to

leave their official rates at their currently low levels for several years, while net asset purchases

(and thus balance-sheet expansion) continues into 2021. This will help markets digest lower, but

still high, borrowing needs as fiscal policy remains accommodative.

Strategy view for 2021 In this scenario, we think that risky assets are well-positioned to outperform. We expect to see

equity indices delivering returns in the 10% area in 2021. We believe that credit-spread

tightening has more room to run as yield hunting pushes investors to move into riskier

segments of the market, while interest-rate levels remain subdued. Indeed, we forecast a

gradual adjustment towards higher yield levels and steeper USD-denominated and

EUR-denominated government-bond curves. More specifically, we expect that the 10Y UST

yield will increase to 1.30% by the end of next year and to 1.75% by the end of 2022, while we

project that 10Y Bund yields will close 2021 at -0.30% and 2022 at -0.10%, representing a

moderate drag on total returns in the IG space. In spite of some widening in the transatlantic

spread at the long end, we believe that EUR-USD will continue to move north and close 2021

at 1.28, as the correlation between equity prices and the US dollar remains negative. In a

nutshell, moderately higher risk-free rates, tighter credit spreads and a weaker dollar should

keep financing conditions for EM paper attractive, while investors struggle to find yield.

The main risks to our call for 2021

Our positive call with regard to risky assets is very much dependent on an assumption that

vaccine distribution will allow a broader and more-solid recovery in global growth in 2021.

Hence, that recovery expectations could be jeopardized by negative news regarding vaccine

distribution, or more in general, regarding health conditions might weigh on appetite for risk at a

time when equities reflect earnings growth in the 20-30% range for this year and the next.

Moreover, after Democratic Senate candidates won run-off elections in the US state of Georgia,

thereby avoiding a split Congress, 10Y UST yields rose above 1% for the first time since March,

and reflation expectations and bear steepening are regaining popularity. We think that inflation

breakevens have limited upside. However, as the US economy recovers and as GDP begins to

return to pre-crisis levels, markets might start to react in anticipation of some tapering and

possibly to a halting of net asset purchases by the Fed. In such a scenario, a sharp repricing of

US rates could spillover on credit markets, given narrow spreads and high leverage – and

possibly on equity valuations and on the US dollar. This is a key risk to monitor in our view.

CHART 3: VOLATILITY AND CENTRAL BANK LIQUIDITY CHART 4: NON-RESIDENT BOND PORTFOLIO MONTHLY FLOW

Source: IIF, Bloomberg, UniCredit Research

0

5

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80

Jan-10 Sep-12 Jun-15 Mar-18 Dec-20

Asse

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VIX G10 FX EM FX ECB, Fed, SNB, BoJ, PBoC assets (rs)

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Jan

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Ap

r 15

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<date>


CEE Quarterly


Currency volatility Central-bank action has also eased implied volatility across a number of assets. The Chicago

Board Options Exchange Volatility Index (VIX) has begun approaching the 20-point level

again. This is at the low end of the VIX range that has prevailed since March. FX volatility has

been following a similar path, but EM currency volatility remains high compared to G7

currency volatility. As the growth outlook improves and the recovery broadens, and with major

central banks remaining committed to providing liquidity, we expect markets to become

calmer over the coming months, albeit with risks of short-lived spikes. Lower FX volatility

would contribute to channeling more funds towards EM markets from crossover investors.

Portfolio reallocation benefiting CEE

CEE bond markets are well-positioned in this respect to attract inflows as EUR-denominated

bond markets will be bid and increasingly owned by the Eurosystem. With governments

funding their fiscal expansions and corporates transforming their short-term liquidity sources

into capital-market borrowing, 2020 has been characterized by very intense supply pressure

on global markets. The very large gross and net supply has been digested smoothly, thanks

to the support of central banks’ asset-purchasing programs and strong demand from private

investors. In the euro area, PEPP and APP flows have led to a massive increase in demand

for bonds. This has taken gross supply net of redemptions and central-bank purchases to

negative levels in spite of large funding needs. In the past, sharply negative net supply

(including quantitative easing) in the euro area has fueled portfolio reallocations, also

benefiting CEE countries. In 2016-17, however, euro-area bond markets offered much better

entry levels for those willing to add duration or credit risk. Yield curves were steeper, and

spreads were wider and more dispersed. The share of eurozone bonds trading at negative

yield levels has increased steadily over the past few months, and scarcity has become a more

material issue across several segments of the market. The ECB’s asset purchases will

continue over the coming quarters and, according to our calculations, will more than offset net

borrowing for both government and non-financial corporate debt over the course of 2021.

CEE bonds appear well-positioned to benefit from portfolio reallocation in such an

environment. Higher-yielding exposures, such as to Romania or Hungary might be favored,

but given their scarcity of yield and higher-rated paper, exposure to Poland and Czech bonds

might also be of interest – if volatility on the currency market subsides.

CHART 5: PORTFOLIO INFLOWS INTO CEE DEBT (12M SUM) CHART 6: YIELD CURVES EUR-DENOMINATED BONDS

*Euro-area net issuance refers to net government and non-financial corporations’ gross issuance net of redemptions and of ECB APP and PEPP flows, which are calculated as a three-month rolling sum.

Source: Haver, Bloomberg, UniCredit Research

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2019 2024 2030 2035 2041 2046 2052 2057

Romania Hungary Poland Euro Swap

<date>


CEE Quarterly


Reduced supply pressure in CEE

In 2021, three additional factors will reduce net borrowing needs in CEE, supporting bond

prices: 1. budget deficits will fall compared to 2020; 2. up to 25% of funding needs could be

covered out of the market by borrowing from EU facilities such as SURE and NGEU. This is

especially true for higher yielders such as Croatia and Romania, which have a larger incentive

to tap funds at a cost below market levels. However, even Bulgaria, Hungary and Poland

could decide to tap EU loans to extend debt duration at below-market costs. The availability of

such funds will also allow greater flexibility for issuers, reducing further supply risk;

3. remaining gross external borrowing needs will either be below redemptions or fall short of

the purchases needed to maintain the current allotment by index-trackers (in percent of

assets under management).

In EU-CEE, we continue to prefer Romanian bonds to their regional peers, both outright and

in spreads. We believe that the downgrade premium should be completely priced out in 2021,

besides investors having to anchor yield expectations lower due to cheap EU funding. In

Russia, a more stable currency could persuade foreign investors to take exposure back to

early 2020 levels as the OFZ curve could bull flatten further after 2020’s rate cuts. In Turkey,

investors could prefer an outright carry trade in 1Q21 as the CBRT remains hawkish and

inflation continues to rise. However, likely rate cuts in 2H21 could see investors pile into

TURKGBs for a while. Lower real rates may end the attractiveness of this trade before year-

end due to potential currency depreciation.

<date>


CEE Quarterly


Updating our REER models

PLN

■ The last few weeks have seen some volatility on EUR-PLN

but the pair has recently approached the 4.50 handle,

nearly 2% higher compared to the December lows.

■ In REER terms, the zloty trades close to the average over

the past six months; according to our model, it is broadly

in line with its fair value.

■ The short-term outlook for the currency is positive and we

see EUR-PLN dropping below 4.45. This level should

prove as a good anchor for developments during the year.

We do not envisage departures from the 4.40-4.50 range

over the forecast horizon, as the NBP could intervene to

keep the pair from falling below 4.40. Levels above 4.50

offer good selling opportunities, in our view.

CZK

■ The CZK closed 2020 on a solid footing, having recovered

most of the losses recorded in September and October

against the EUR. Breaking below 26.0 would take the pair

to its lowest level since March.

■ Our REER model for the CZK displays the currency as

slightly overvalued, after the last few months’ recovery.

However, this should not prevent the CZK from gaining

against the EUR in the medium term.

■ We think that EUR-CZK might break below 26.0 and

approach 25.5 by the end of 2021. The CNB is more hawkish

than its peers, supporting CZK appreciation. In the short

term, the PLN might outperform the CZK.

HUF

■ EUR-HUF has displayed large swings in the 355-365 area

over the past four months, with only short-lived deviations

outside of the range. The pair remains at the upper end of

the 2020 range, and also in REER terms the recovery has

been limited.

■ According to our REER model, the HUF remains

moderately undervalued, having recovered only part of its

undervaluation compared to the crisis period.

■ We forecast EUR-HUF within the 355-360 area over the next

few quarters. While the NBH tried to decouple monetary

policy decisions from HUF fluctuations, the currency remains

the favorite short for investors in central Europe.


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<date>


CEE Quarterly


RUB

■ The RUB seems to have stabilized in the 72-75 area

against the USD. The rise in commodity prices and the

overall weakness in the USD over the past few months

have been supportive but the currency remains almost

20% weaker than a year ago in REER terms.

■ Our REER model for the RUB depicts the currency as

broadly in line with its fair value, after a long streak of

overvaluations was reined in.

■ We think that the CBR is done with rate cuts for the time

being, with a diminishing short-term risk that the inflation

target will be undershot. This might pave the way to a

return towards the lower end of the 70-75 range for USD-

RUB over the coming quarters.

TRY

■ Monetary tightening and moves by the CBRT to simplify

the monetary policy framework have contributed to a

sharp U-turn on USD-TRY. The pair trades 13% below

October peaks, but is still 25% above YE19 levels.

■ Such recovery has reduced the undervaluation of the TRY

in REER terms, which remains above 10%. Recent hikes

have taken real rates back into positive territory, which

should support the currency in the short term.

■ The medium-term picture remains more challenging, and

the risk that the USD-TRY will approach the 8.00 area

again by YE21 is material, in our view, if disinflation in

2H21 is accompanied by a too-quick reversal of recent

policy actions.


-20%

-15%

-10%

-5%

0%

5%

10%

15%

20%

50

60

70

80

90

100

110

120

Dec-00 Sep-03 Jun-06 Mar-09 Dec-11 Sep-14 Jun-17 Mar-20

RE

ER

und

er/

over

va

luatio

n

RE

ER

Model (rs) REER

-20%

-15%

-10%

-5%

0%

5%

10%

15%

20%

40

50

60

70

80

90

100

110

Mar-03 Dec-05 Sep-08 Jun-11 Mar-14 Dec-16 Sep-19

RE

ER

und

er/

over

va

luatio

n

RE

ER

Model (rs) REER

<date>


CEE Quarterly


Countries

<date>


CEE Quarterly


Bulgaria Baa1 stable/BBB stable/BBB stable*

Outlook

Additional fiscal measures were announced at the end of 2020 to mitigate the damages caused by the second wave of the

COVID-19 pandemic. We expect the early phase of the recovery in Bulgaria to be somewhat weaker than in most CEE

economies for two reasons. First, Bulgaria was among the countries worst hit by the second wave of COVID-19 infections.

Second, Parliamentary elections will lead to a slow start for the NGEU program and to delays in some infrastructure projects

initiated under the previous government. However, economic recovery is likely to gain stronger momentum in 2022 and 2023

once the health crisis ends and Bulgaria’s absorption of NGEU funds shifts to a higher gear.

Strategy

Sovereign’s funding needs are set to rise this year, as Bulgaria is the only CEE country where budget deficit is expected to

increase. To meet these needs, a combination of new Eurobond issue, domestic bond issuance, and low-cost borrowing

provided under SURE financial assistance instrument will be used. The first tranche of low-cost borrowing from NGEU is

expected in 2022.

Author: Kristofor Pavlov, Chief Economist (UniCredit Bulbank)

KEY DATES/EVENTS

■ Mid-Feb: Labor force 4Q20 data

■ Mid-Feb, Early-Mar: GDP data (4Q20 flash estimate and

structure, preliminary data for 2020)

■ End March or early April: General elections

GDP GROWTH FORECAST

INFLATION FORECAST

Source: National Statistical Institute, UniCredit Research

MACROECONOMIC DATA AND FORECASTS

2018 2019 2020Е 2021F 2022F

GDP (EUR bn) 56.1 60.7 58.4 61.1 65.4

Population (mn) 7.0 7.0 6.9 6.9 6.8

GDP per capita (EUR) 8,012 8,728 8,458 8,909 9,603

Real economy, change (%)

GDP 3.1 3.7 -5.5 2.7 4.5

Private consumption 4.4 5.5 -2.9 1.7 3.3

Fixed investment 5.4 4.5 -8.4 4.7 13.3

Public consumption 5.4 2.0 2.5 4.2 4.0

Exports 1.7 3.9 -12.5 5.6 7.5

Imports 5.7 5.2 -9.3 5.3 8.5

Monthly wage, nominal (EUR) 586 651 701 748 806

Real wage, change (%) 7.7 8.0 5.9 4.9 5.2

Unemployment rate (%) 5.2 4.2 5.4 5.6 4.7

Fiscal accounts (% of GDP)

Budget balance 2.0 2.1 -3.7 -5.6 -2.8

Primary balance 2.7 2.7 -3.1 -5.0 -2.2

Public debt 21.8 19.9 25.0 28.3 29.1

External accounts

Current account balance (EUR bn) 0.6 1.8 1.6 1.9 2.2

Current account balance/GDP (%) 1.0 3.0 2.7 3.2 3.4

Extended basic balance/GDP (%) 3.3 5.5 6.3 7.3 8.7

Net FDI (% of GDP) 1.4 1.4 1.7 1.5 2.1

Gross foreign debt (% of GDP) 60.3 58.0 66.1 65.2 63.2

FX reserves (EUR bn) 25.1 24.8 28.9 31.6 34.2

Months of imports, goods & services 8.0 7.6 10.3 10.3 9.9

Inflation/monetary/FX

CPI (pavg) 2.8 3.1 1.7 1.9 2.5

CPI (eop) 2.7 3.8 0.7 2.5 2.6

Central-bank reference rate (eop) -0.50 -0.61 -0.70 -0.60 -0.56

USD/BGN (eop) 1.71 1.74 1.66 1.53 1.47

EUR/BGN (eop) 1.96 1.96 1.96 1.96 1.96

USD/BGN (pavg) 1.66 1.75 1.72 1.59 1.50

EUR/BGN (pavg) 1.96 1.96 1.96 1.96 1.96

Source: Bulgarian National Bank, Eurostat, National Statistical Institute, UniCredit Research

*Long-term foreign-currency credit ratings as provided by Moody’s, S&P and Fitch, respectively

yoy (%)

3.53.1

3.7

-5.5

2.7

4.5

-8

-4

0

4

8

2017 2018 2019 2020E 2021F 2022F

Private consumption Public consumption Fixed Investments

Net exports Inventories GDP, real growth

0

1

2

3

4

5

Dec-17 Dec-18 Dec-19 Dec-20 Dec-21 Dec-22

yoy (%)

<date>



CEE Quarterly

Difficult start to recovery but strong medium-term outlook

The outlook is for a subdued economic recovery in 2021 Bulgaria was hit hard by the second wave In 2021, economic growth will depend on path of virus Another difficult season for summer tourism is expected Share of vaccinated people to become the most closely watched indicator No need for new restrictions in winter 2021-22 Fiscal support likely to increase in 2021

After GDP contracted by around 5.5% in 2020, our baseline scenario envisages only a partial

recovery of 2.7% this year. Recovery will take a stronger hold in 2022 and 2023, when we

anticipate GDP growth to accelerate to something between 4% and 5% annually. We expect

GDP to return to its pre-crisis level in mid-2022. Getting back to full employment is likely in the

end of 2023. Uncertainty over the near-term outlook remains elevated. Risks to our baseline

macro scenario are dominated by pandemic dynamics and local politics related factors.

The economy faces a difficult winter. The main reason is the surge in COVID-19 infections (see

lhs chart) that have led to the adoption of new restrictions in November. The new restrictions are

milder than those implemented during the first wave of the pandemic, but are likely to remain in

place for longer. We expect the economy to contract in both 4Q20 and 1Q21. The fall in GDP is

likely to be more modest compared to the first wave of the pandemic, because some sectors are

excluded from the restrictions, including most importantly the manufacturing sector.

A genuine relaxation of the restrictions will start in March, when we expect the pandemic

curve to become more promising. The spring will limit the spreading of the disease, similarly,

to what we witnessed in 2020. We expect GDP to rebound in 2Q21 and beyond, as the direct

impact of the pandemic on the economy eases, and fiscal stimulus provide further support.

However, consumption in tourism and other sectors most exposed to the pandemic’s impact

will remain subdued. This is because the positive impact from vaccination will take time to

materialize, thereby causing many people to continue behaving cautiously and maintaining

some sort of voluntary physical distancing throughout the summer months of 2021.

The strength and speed of the recovery will depend on the timing and effectiveness of the roll-out

of the vaccines. Opinion poll conducted by Alpha research in December suggests that the share of

the population who want to be vaccinated is similar to the rest of Europe (see right chart). We hope

that the share of people wishing to be vaccinated will increase, as information about the pros and

cons of doing so becomes more widely available and as leaders in politics, business and the arts

presumably lead a large-scale campaign to boost vaccination rates.

Rising vaccination levels (closer to the one required to reach collective immunity) will prevent

the need for new restrictions in winter 2021-22. We expect spending to rise and consumption

patterns to slowly start to normalize, boosting GDP growth in 4Q21 and further into 2022.

The strength of the recovery will depend on the size and efficiency of the fiscal policy

response. Initially, Bulgaria’s fiscal policy response was more delayed and timid than in the

other CEE countries. The scale of the fiscal support was gradually increased thereafter and

we expect it to have reached 3.2% of GDP in 2020.

BULGARIA BADLY HIT BY SECOND WAVE OF PANDEMIC WILLINGNESS TO GET COVID -19 VACCINE IS MORE THAN 50%

Source: Worldometer, Alpha Research, UniCredit Research

0

100

200

300

400

500

600

700

Slo

ven

ia

Bulg

aria

Cro

atia

Hu

ng

ary

Bosnia

and

H.

Ma

ce

do

nia

Lithu

ania

Italy

Austr

ia

Cze

chia

Nov-20 Dec-20

10 most badly hit European countries from the second wave:New COVID-19 deaths per 1 mn inhabitants

15%

40%

45%

Want to be vaccinated, but will wait to see if the vaccines had negative effects

Want to be vaccinated

Don't want to be vaccinated

Share of Bulgarians who say they want/don`t want to be vaccinate against COVID-19. (Dec'20)

<date>



CEE Quarterly

Government to start withdrawing fiscal support from 2022 Wage subsidies and short-time work schemes have helped prevent a massive increase in unemployment Absent policies to facilitate a rapid reallocation of workers, significant rise in unemployment rate is likely toward the end of 2022, when phasing out of job retention schemes should begin Bulgarian are likely to go to the polls on 28 March GERB likely to remain largest party… …but BSP more likely to form next government

As Bulgaria was among the countries hit hardest by the second wave of the pandemic, and

because it is one of the economies with the largest free fiscal room available, we expect fiscal

support to increase this year (see lhs chart).

If our estimates are broadly right, fiscal support will increase to around 4.0% of GDP in 2021.

On top of that, the government has raised public sector wages, pensions and some social

payments, which are likely to cost some 2.0% of GDP. All of these spending increases will

drive the fiscal deficit on an accrual basis to 5.6% of GDP in 2021, up from 3.7% in 2020,

making Bulgaria the only CEE country where budget deficit is expected to rise this year. We

think the government will start withdrawing fiscal support only very gradually and when

economic recovery is likely to have already taken a stronger hold. Other less fiscally strong

economies in CEE, however, will have to start withdrawing fiscal support earlier, perhaps

beginning from the 2H21, potentially hampering their economic recovery prospects.

The unemployment rate has increased only modestly thanks to the widespread use of job

retention schemes. Indeed, the sharp reduction in overall hours worked in the 2Q20 and 3Q20

(see rhs chart) was mostly driven by a reduction in hours per worker and not by excessive job

losses. In fact, the unemployment rate increased to only 5.9% in 2Q20 and 4.8% in 3Q20,

from 4.1% in 4Q19. The decline in the participation rate, which was mostly attributable to the

labor market stress and the related exit of discouraged workers from the labor force, also

helped moderating the rise in the unemployment rate. Following the rise in the unemployment

rate to an average of 5.4% in 2020, we expect a further increase to 5.6% in 2021 on average.

After values above 6% mark in 4Q20 and 1Q21, the situation is not expected to ease until

later in the current year. The acceleration of GDP growth, which is expected to begin in 2022,

is likely to help economy get back to full employment toward the end of 2023.

The president intends to schedule the next regular parliamentary elections on the earliest

possible date envisaged by the law. If such decision is eventually taken, it will shorten the

election campaign time and is likely to benefit large and well-established political parties.

Small parties will face even more difficulties in the preparation of the election, because the

vote will be organized and held amidst the worst health crisis in the country’s modern history.

The GERB is likely to remain the largest party in the new parliament. However, the BSP is

more likely to form the next government. If the past has any clues to offer, the transition to a

new government will slow down decision making in the public administration. This, in turn, is

likely to cause some delays in starting NGEU-funded projects and in the completion of some

key infrastructure projects initiated under the GERB, which will negatively affect the pace of

recovery in 2021. Importantly, the BSP is likely to remove the flat personal income tax, which

we expect to support growth, as those at the bottom of the income distribution will benefit.

ROLE OF FISCAL POLICY SUPPPORT TO RISE IN 2021 LABOR MARKET ADJUSTMENT WAS LESS PAINFULL THIS TIME

Source: Eurostat, National Statistical Institute, Ministry of Finance, UniCredit Research

1.6

2.6

0.6

1.2

1.0

0.2

0

1

2

3

4

5

6

2020 2021

Fiscal support without clear beneficiary

Fiscal support for companies

Fiscal support for households

as % of GDP

3.2

4.0

-12.0

-8.0

-4.0

0.0

4.0

8.0

1Q18 2Q18 3Q18 4Q18 1Q19 2Q19 3Q19 4Q19 1Q20 2Q20 3Q20

Hours worked, yoy growth Unemployment rate%

<date>



CEE Quarterly

New Eurobond issue is likely in the second half of the year

Fiscal reserve remains at a very comfortable level Sovereign funding needs set to rise this year Next Eurobond likely in 2H21 Public debt to peak at 30% of GDP in 2021… …before slowly going down in both 2022 and 2023

As the pandemic took a turn for the worse toward the end of 2020, fiscal stimulus had to

increase too, pushing the budget deficit on a cash basis up to 3.1% of GDP in 2020 (from the

September estimate of 2.4%). The corresponding increase in funding needs last year was met

using fiscal reserves, which had reached a record high of 11.9% of GDP, after successful

Eurobond issuance of EUR 2.5bn in September.

Bulgaria’s funding needs are set to rise in 2021, as it is the only country in CEE expected to

register a larger budget deficit this year than in 2020. To meet these needs, we expect the

authorities to use a combination of new Eurobond issue, domestic bond issuance, and low-cost

borrowing provided under SURE financial assistance instrument. The first traches of low-cost

borrowing from NGEU program are not anticipated before the beginning of 2022, in our view.

We expect Bulgaria to issue its next Eurobond in the 2H21. The volume of the new Eurobond

issue is likely to be around EUR 1.5 billion, while domestic bond issuance is forecasted to

remain close to the level of bond issuance already posted in 2020 (BGN 1.2 billion).

The combination of ample fiscal reserves and low-cost borrowing available under SURE

financial assistance program and NGEU recovery plan is likely to keep yields on Bulgarian

sovereign bonds low in the years leading up to the euro adoption, which we expect in 2024.

If our projection is broadly right, public debt will rise to 28.3% of GDP in 2021. As growth

momentum gets stronger and the government starts to withdraw fiscal policy support,

sovereign funding needs will decrease and public debt will stabilize at levels slightly below

30% mark in the next two years. After peaking at 29.5% of GDP in 2023, our projection

envisages public debt slowly go down to 26.1% in the long end of our forecast in 2027.

GOVERNMENT GROSS FINANCING REQUIREMENTS

GROSS EXTERNAL FINANCING REQUIREMENTS

EUR bn 2020E 2021F 2022F

Gross financing requirement 2.6 3.4 3.4

Budget deficit 1.8 2.8 1.8

Amortization of public debt 0.7 0.6 1.6

Domestic 0.5 0.4 0.2

Bonds 0.5 0.4 0.2

Bills 0 0 0

Loans/other 0 0 0

External 0.2 0.2 1.4

Bonds and loans 0 0 1.3

IMF/EU/other IFIs 0.2 0.2 0.2

Financing 2.6 3.4 3.4

Domestic borrowing 0.6 0.6 0.6

Bonds 0.6 0.6 0.6

Bills 0 0 0

Loans/other 0 0 0

External borrowing 2.6 2.6 2.6

Bonds and loans 2.5 2.0 1.5

IMF/EU/other IFIs 0.1 0.6 1.1

Privatization/other 0 0 0

Fiscal reserves change (- =increase)

-0.6 0.2 0.2

EUR bn 2020E 2021F 2022F


C/A deficit -1.6 -1.9 -2.2

Amortization of medium and long term debt 3.3 3.2 4.3

Government/central bank 0.2 0.2 1.4

Banks 0.5 0.5 0.6

Corporates/other 2.5 2.5 2.3

Amortization of short-term debt 7.9 8.7 9.0

Financing 9.6 10.0 11.0

FDI (net) 1.0 0.9 1.4

Portfolio equity, net -0.2 1.1 -0.6

Medium and long-term borrowing 5.8 3.9 5.5


Banks 0.5 0.6 0.6


Short-term borrowing 8.7 9.0 9.3

EU structural and cohesion funds 1.1 1.6 2.1

Other -2.7 -3.9 -4.0

Change in FX reserves (- = increase) -4.1 -2.7 -2.6

Memoranda:

Nonresident purchases of LC gov’t bonds 0 0 0

International bond issuance, net 2.5 2.0 0.3

Source: Bulgarian National Bank, Ministry of Finance, UniCredit Research

<date>


CEE Quarterly


Croatia Ba2 positive /BBB- stable /BBB- stable*

Outlook

We now expect 4.6% GDP growth in 2021 and 4.8% in 2022. The renewed spread of COVID-19 in the autumn was an important

factor influencing our view. Tougher restrictions in 4Q20 and 1Q21 will likely constrain private spending, pushing back growth to 2H21

and 2022, when we also expect more impact from the absorption of NGEU funds. An important factor for growth in 2021 will be the

performance of the tourism season, the segment that likely differentiates the development in Croatia from the rest of CEE. A rapid

implementation of vaccinations and a higher immunization rate would help. On the other hand, fiscal stimulus announced by the

government with the new budget, will likely be revised, requiring budget amendments, but not before the local elections in April/May.

Author: Hrvoje Dolenec, Chief Economist (Zagrebačka banka)

KEY DATES/EVENTS

■ 26 Feb: Q420 & FY20 GDP estimate

■ Feb: National Recovery & Resilience Plan submission

■ 31 Mar: 4Q20 BoP

■ 31 Mar: 4Q20 Public debt

GDP GROWTH FORECAST

INFLATION FORECAST

Source: Eurostat, CNB, Crostat, UniCredit Research


2018 2019 2020E 2021F 2022F

GDP (EUR bn) 52.0 54.3 48.7 51.6 55.2

Population (mn) 4.1 4.1 4.1 4.0 4.0



GDP 2.8 2.9 -9.1 4.6 4.8




Exports 3.7 4.6 -25.0 19.0 7.0

Imports 7.5 5.0 -15.1 16.6 9.3

Monthly gross wage, nominal (EUR) 1,139 1,213 1,224 1,246 1,296

Real wage, change (%) 3.4 3.0 2.3 0.3 2.0



Budget balance 0.2 0.4 -8.0 -3.5 -2.6

Primary balance 2.5 2.6 -5.6 -1.3 -0.6

Public debt 74.2 72.8 89.6 87.9 84.9

External accounts

Current account balance (EUR bn) 0.9 1.5 -1.4 0.4 0.3

Current account balance/GDP (%) 1.8 2.7 -2.9 0.7 0.5


Net FDI (% of GDP) 1.5 1.9 2.9 2.1 1.9





CPI (pavg) 1.5 0.8 0.2 1.5 2.0

CPI (eop) 0.8 1.4 0.3 2.0 2.0

3M money market rate (Dec avg.) 0.49 0.35 - - -

USD/FX (eop) 6.47 6.65 6.18 5.89 5.71

EUR/FX (eop) 7.42 7.44 7.53 7.53 7.53

USD/FX (pavg) 6.28 6.62 6.61 6.03 5.80

EUR/FX (pavg) 7.41 7.41 7.53 7.53 7.53

Source: Eurostat, CNB, UniCredit Research

*Long-term foreign currency credit rating provided by Moody’s, S&P and Fitch, respectively

-12

-10

-8

-6

-4

-2

0

2

4

6

8

2018 2019 2020E 2021F 2022F

Private Consumption Government Consumption

Investment Inventories

Net Exports GDP

yoy (%)

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0


<date>

January 2021

CEE Macro & Strategy Research

CEE Quarterly


Rough journey to the light at the end of the tunnel

Though later than in the most of CEE, tougher restrictions were implemented in Croatia at the end of the November… …likely triggering some deceleration of growth in December, an important month for private spending. Meaningful recovery unlikely in 1Q21 We lower our GDP decline to -9.1% in 2020, and the growth in 2021 to 4.6%. Vaccination roll-out and immunization rate are important factors for Croatia due to importance of tourism NGEU absorption should affect the speed of the investment recovery but a significant impact is not expected before 2H21. Croatia was also allocated with funds from the EU Solidarity Fund to recover damages caused by two earthquakes recorded, one in spring and then the other in late 2020.

Economic activity remained solid at the beginning of 4Q20, but the introduction of restrictions

at the end of November is likely to weigh on growth in December and in 1Q21. The Croatian

government tried to avoid tighter restrictions as long as it could, but the gradual increase in

the number of new daily cases and deaths provoked tougher action. Since the end of

November, tighter measures have been put in place (the closure of bars, restaurants and

gyms, the suspension of sports activities, cuts in public transport, big gatherings) and are

initially envisaged to be in place for at least three and a half weeks. This is likely to have

affected economic performance in December, which usually sees a peak in private spending.

In 1Q21, it is hard to see a meaningful recovery of GDP, but rather a stagnation. We expect

most of the restrictions to remain in place during winter months, even if the epidemiological

picture improves and vaccinations were able to be rolled out in early 2021.

As a result, the drop in GDP in 2020 should be around -9.1%, followed by slower recovery.

This still means absorption of NGEU funds will likely be initiated only in 2H21. We project

growth of 4.6% in 2021 rather than 5.6% previously, with less than half of the drop in 2020

being recouped by the recovery in 2021. In 2022 investment should accelerate, while the

recovery in private consumption is likely to moderate, resulting in overall growth of 4.8%.

For the Croatian economy, a wider vaccination effort within Europe would be very helpful as

this could support the travel and tourism segment. From the experience of the past summer,

we may presume that tourism can recover quickly once restrictions are lifted. However, the

tourist season is likely to remain the biggest downside, or upside, risk factor for our projection

in 2021 and the performance of the tourism sector will very much depend on the immunization

rate achieved within Croatia and Europe more broadly.

NGEU will support the economic recovery from 2H21. NGEU funding available to Croatia is

generous. The latest official figures suggest EUR 10.6bn (19.6% of 2019 GDP) has been

allocated, EUR 7.1bn of which in grants. The government’s intention is to focus on spending

grants before using the loan portion. However, from 2022, this funding, combined with the

remaining funding from the MFF 2014-20 allocation (more than EUR 6bn, contracted but not yet

implemented) to be spent by the end of 2023, will likely drive public investment. At the time of

writing, Croatia has not presented a draft National Recovery & Resilience Plan to the European

Commission. This is a necessary condition to obtain NGEU funding. On a positive note, the

government has indicated its target for the final submission is February 2021. Although areas of

intervention are only roughly hinted at, it is clear that funds will be used mostly to finance public

investment or activities linked to the health-care sector, education and public infrastructure. On

top of this, Croatia was allocated EUR 684mn from the EU’s Solidarity fund to support

reconstruction following the March earthquake in Zagreb and the surrounding area. Additional

amount will likely be allocated for damages of an earthquake at the very end of the 2020.

PANDEMIC SPREAD STRENGTHENED IN THE AUTUMN... …BUT TOUGHER RESTRICTIONS IMPOSED ONLY RECENTLY

Source: Government RoC, Oxford Government Stringency Index, UniCredit Research

0

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

Feb-2

0

Ma

r-20

Apr-

20

Ma

y-2

0

Ju

n-2

0

Ju

l-2

0

Aug

-20

Sep

-20

Oct-

20

Nov-2

0

Dec-2

0

new cases 7davg new cases per mn pop 7davg

spring lockdown

new "light" lockdown

0

20

40

60

80

100

120

Feb-2

0

Ma

r-20

Apr-

20

Ma

y-2

0

Ju

n-2

0

Ju

l-2

0

Aug

-20

Sep

-20

Oct-

20

Nov-2

0

Dec-2

0

stringency index

spring lockdow

new "light" lockdown

<date>

January 2021


CEE Quarterly


Fiscal stimulus in 2020 was very large, and directed mostly at wage support… …preventing a bigger drop in employment Wage support is planned as crucial fiscal measure of support to economy in 2021… …though new cuts in tax rates are envisaged too Any change in measures will likely force the government to amend the budget but not before local elections There are many risks and uncertainties for projections…

The fiscal stimulus generated in 2020 was a huge effort considering Croatia’s fiscal position

Total stimulus ultimately amounted to 5% of GDP. Direct support for wages (workers on

furlough) in 2020 is estimated at HRK 8bn (2% of GDP) while reimbursement of social

contributions reached some HRK 4.5bn (1.1% of GDP). On top of that, support was provided

through write offs (0.6%) and postponement of repayments (1.3%) of tax obligations.

This stimulus was the crucial factor preventing a large drop in employment in 2020. Overall,

average employment dropped by just 1.2% in 2020, that is, there was some 34 thousand

fewer people employed. Though the tourism season was weaker, it actually affected seasonal

workers from neighboring countries more than local staff. Wage support was also helpful in

preventing a drop in average wages, which were some 2% higher in real terms yoy in 2020.

The 2021 budget envisages support measures amounting to a total of 2% of GDP. The wage

support should be the main support measure to the economy in 2021. EUR 510mn (HRK 4bn),

or 1% of GDP, from the SURE facility will be directed to it. Another support measure is the cut in

tax rates, the most important of which relate to those on personal income (the higher rate from

36% to 30%, and the lower from 24% to 20%) and corporate tax for smaller companies (from

12% to 10%). This is likely to cut the revenue by an estimated HRK 1.9bn (0.5% of GDP).

The support measures envisaged, together with proposed increases in spending (including

the increase in the wage bill) leave little scope for additional support if the government

continues to insist on its target of cutting the budget deficit to below 3% of GDP in 2021, as

they already imply a deficit of 2.9% of GDP. In our view, such an approach is already barely

sustainable, as our projection of nominal GDP indicates that the general government deficit is

likely to undershoot the target (by between 0.5pp and 1pp). This leaves two options, in our

view. First, the government could admit the unsustainability of its target and accept the idea of

expanding stimulus to support the struggling recovery until it begins to materialize with the

warmer weather and widespread vaccinations. The second option is to insist on the target in

an effort not to compromise rapid euro accession plan, which seems to be ambitious agenda

involving reshuffling spending. Both options will require budget amendments. This does not

seem likely before June as local elections are set for April/May and discussing some of the

necessary spending items might be too politically sensitive during an election campaign.

Regarding the elections, the main battle is expected in the biggest cities, including the capital

Zagreb, where the national opposition enjoys stronger support than in rural areas where HDZ

would like to fare better. However, the final outcome is unlikely to change the national balance.

There are various risks for the economy and our projections in 2021. There is a lot of uncertainty

around the pandemic, vaccination and the immunization rate. This is very important in light of

the importance of tourism for Croatian GDP. There is still a lot of uncertainty surrounding NGEU

absorption – in particular regarding the readiness of the Croatian administration to absorb funds

rapidly, especially considering Croatia’s past difficulty in absorbing EU funding.

FISCAL SUPPORT TO MAINTAIN EMPLOYMENT AND WAGES… …ALLEVIATED PRESSURES ON LABOR MARKET

*estimate for Dec 2020; **estimates from media for Sep-Dec 2020 Source: Crostat, Employment service, CPII-HZMO, UniCredit Research

1,400

1,450

1,500

1,550

1,600

1,650

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2019 2020Employment (ths)

80

180

280

380

480

580

680

780


2019 2020* +furlough**Unemployment (ths)

<date>

January 2021


CEE Quarterly




EUR bn 2020E 2021F 2022F





Bonds 1.7 0.8 1.9

Bills 3.4 3.4 3.4

Loans 0.5 1.0 0.8



IMF/EU/other international financial institutions

0.1 0.1 0.1



Bonds 4.3 1.1 2.5

Bills 3.4 3.4 3.4

Loans 1.2 1.5 1.0


Bonds 2.0 1.5 1.5

IMF/EU/other international financial institutions

0.6 1.3 1.0

Privatization/other 0 0 0

EUR bn 2020E 2021F 2022F


C/A deficit 1.4 -0.4 -0.3



Banks 0.5 0.5 0.4




Banks 2.0 1.0 1.0


Financing 13.9 10.1 10.1

FDI (net) 1.4 1.1 1.1

Portfolio equity, net -0.2 -0.5 -0.3



Banks 0.6 0.8 0.8




Other 1.2 0 0

Change in FX reserves (= increase) 0.1 -2.6 -1.5

Memoranda:

Nonresident purchases of LC gov’t bonds n.a. n.a. n.a.


Source: CNB, Croatian ministry of finance, UniCredit Research

<date>

January 2021


CEE Quarterly


Czechia Aa3 stable/AA- stable/AA- stable*

Outlook

Household demand constraints, poorer financials in the corporate sphere and missing income from foreign tourism will allow

only moderate GDP growth (2.0%) in 2021. The government will provide particularly strong fiscal impulse with an especially low

multiplier. Damage to public finances is expected over the long term. We believe the CNB will start monetary policy tightening in

late 2021 but will add only two 25bp hikes by the end of 2022.

Strategy

Fiscal profligacy, reluctance to borrow from the EU and a potential rate hike could narrow CZGB spreads to regional peers. The

CZK is slightly undervalued at present and faces limited risk from the second wave of the pandemic.

Author: Pavel Sobíšek, Chief Economist (UniCredit Bank Czech Republic and Slovakia)

KEY DATES/EVENTS

■ ČNB policy meetings – 4 Feb, 24 Mar

■ 4Q GDP – 2 Feb (flash), 2 Mar (structure)

■ Public finance statistics 2020 – 2 Apr

GDP GROWTH FORECAST

INFLATION FORECAST

Source: CZSO, UniCredit Research


2018 2019 2020E 2021F 2022F

GDP (EUR bn) 211.2 224.0 211.1 224.0 248.5

Population (mn) 10.6 10.7 10.7 10.7 10.7



GDP 3.2 2.2 -6.4 2.0 4.9


Fixed investment 10.0 2.2 -8.9 -3.0 8.0


Exports 3.7 1.2 -6.9 4.7 6.7

Imports 5.8 1.3 -6.4 4.4 5.8

Monthly wage, nominal (EUR) 1,250 1,329 1,321 1,381 1,482

Real wage, change (%) 5.9 3.5 -0.2 0.7 1.4



Budget balance 0.9 0.3 -7.0 -7.8 -6.0

Primary balance 1.6 1.0 -6.0 -6.5 -4.5

Public debt 32.1 30.2 38.1 44.4 47.2

External accounts

Current account balance (EUR bn) 0.9 -0.7 7.5 6.0 3.0

Current account balance/GDP (%) 0.4 -0.3 3.6 2.7 1.2


Net FDI (% of GDP) 0.9 1.1 0.4 1.0 1.1




Inflation/Monetary/FX

CPI (pavg) 2.1 2.8 3.2 2.1 2.6

CPI (eop) 2.0 3.2 2.3 2.3 2.7

Central bank target 2.0 2.0 2.0 2.0 2.0

Central bank reference rate (eop) 1.75 2.00 0.25 0.50 0.75

3M money market rate (Dec avg.) 2.01 2.18 0.35 0.60 0.90

USD/FX (eop) 22.5 22.6 21.4 20.0 18.9

EUR/FX (eop) 25.7 25.4 26.2 25.6 25.0

USD/FX (pavg) 21.7 22.9 23.2 21.1 19.4

EUR/FX (pavg) 25.6 25.7 26.4 26.0 25.2

*Long-term foreign-currency credit rating provided by Moody’s, S&P and Fitch, respectively

-2

-1

0

1

2

3

4

5

Jan-18 Jul-18 Jan-19 Jul-19 Jan-20 Jul-20 Jan-21 Jul-21 Jan-22 Jul-22

CPI PPI

Forecast

yoy (%)

<date>

January 2021


CEE Quarterly


Getting ready for a fiscal deluge

The pandemic continues to dominate the economic outlook from the supply side Higher unemployment rate and stagnating real wages in gross terms will allow for only a limited consumption boost Corporate sector’s ability to invest has been reduced Economic prospects vary significantly across sectors

The pandemic will continue to dominate the economic outlook in 2021, albeit differently than in

2020. Regarding the supply side of the economy, the government has introduced a new, five-

level alert system to address the coronavirus situation, with increasing levels of control over

restrictions to population mobility. However, shifts between individual levels are not equally

important from a macroeconomic viewpoint. We estimate that level 5, which is in place at the

start of 2021, means that, in terms of GVA, approximately 12% of the economy is inactive.

A shift to level 4 would reduce this share slightly to 10%, whereas a further shift to level 3 would

lead to a significant improvement to 5%. We assume level 4 will persist throughout most of

the 1Q21. A persistence of level 5 for longer would clearly bring downside risk to our forecast.

Regarding the demand side, things are expected to get worse before getting better. Despite

the financial market optimism about the start of vaccination, neither households nor the

corporate sector appear to be in a position to boost their spending substantially. Government

subsidies in 2020 were primarily structured to cushion households. With most of the

government measures coming to an end, we expect the unemployment rate to add 1pp in

1Q21 and to hover at the new level for much of the rest of 2021. Additionally, real wages are

projected to remain flat in gross terms in 2021, with higher purchasing power only stemming

from a higher number of hours actually worked, and an income tax cut that, however,

disproportionately favors wealthier households. Pent-up demand is also projected to lift

household consumption somewhat from 2Q20 onwards.

Financials in the corporate sector have deteriorated sharply. The return on FDI equity in

Czechia is estimated as being down to 5% in 2020, having halved since 2019. For domestic

capital, returns are typically much lower than those from FDI and 2020 is likely to be no

exception. One reason for the deterioration was the reluctance of companies to shed their

labor force in the hope that shutdowns and the slow-business environment would soon be

over. As a legacy of this approach, the corporate sector’s ability to invest in 2021 has been

reduced. Indeed, the survey of the Czech Statistical Office made in November showed that

non-financial corporations expect to cut their capital spending by 10%, the worst outcome of

this survey ever. We expect fixed capital formation (also including public infrastructure) to

start 2021 with an ongoing double-digit slump, resuming yoy growth only in late 2021.

A distinct, pandemic-induced feature is the varying prospects of individual economic sectors.

Within manufacturing, metal processing appears to be more optimistic, however we largely

attribute this to a short-term effect of tariffs on imports from China. The outlook for automotive

has sharply improved, which makes us a little skeptical.

MANUFACTURING PMI JUMPED ABOVE 50, BUT ITS LEVEL STILL POINTS TO A MODERATE CONTRACTION OF IP

SLUMP IN CONSUMER CONFIDENCE AMID THE SECOND LOCKDOWN BODES ILL FOR HOUSEHOLD CONSUMPTION

Source: CZSO, Markit, UniCredit Research

34

39

44

49

54

59

-25.0

-20.0

-15.0

-10.0

-5.0

0.0

5.0

10.0

Jan-16 Sep-16 May-17 Jan-18 Sep-18 May-19 Jan-20 Sep-20

Industrial output (MA3; yoy) Czech PMI - RS% yoy

-9.0

-6.7

-4.3

-2.0

0.3

2.7

5.0

-28.0

-21.0

-14.0

-7.0

0.0

7.0

14.0

Sep-14 Jun-15 Mar-16 Dec-16 Sep-17 Jun-18 Mar-19 Dec-19 Sep-20

Consumer confidence Household consumption (RS)

<date>

January 2021


CEE Quarterly


Lack of income from city tourism may cause Czechia’s GDP to underperform its peers in 2021 Government intends to deliver another fiscal impulse in 2021, easing prudency rules A huge income tax cut has been voted through by PM’s ANO Movement and an opposition party,… …which is expected to shape the political scene in the future. The tax cut is deemed to have limited inflationary effects, leading to a single repo rate hike in 2021

New car registrations in Europe have returned to double-digit yoy declines and even if demand

for Škoda cars outperforms other brands, it may not secure sustained growth in 2021.

Machinery manufacturing will probably take time to recover.

Outside industry, the sectors linked to social mobility are set to recover only slowly. Of those,

services related to foreign tourism are in the deepest trouble. Income from tourism, dominated

by tourists to Prague, fell by more than two-thirds in 2020 and was responsible for a quarter of

the overall GDP decline. With city tourism expected to lag in the post-pandemic recovery, it

may cause Czechia’s GDP to slightly underperform its EU-CEE peers in 2021. That said,

recovery in 2022 may help reach the pre-pandemic GDP level by 4Q22.

The pandemic has given the government an excuse to significantly loosen traditionally solid

fiscal discipline in the run-up to the autumn 2021 general elections. While the widening of the

public-sector deficit in 2020 versus 2019 by an estimated 7% of GDP may be close to the EU

average, it is likely that a positive fiscal impulse in 2021 may be exceptional in Czechia’s peer

group. The government also pushed through an amendment to fiscal prudency rules, allowing a

seven-year period to bring the structural deficit back to 1%. This came despite warnings from

the National Fiscal Council that the debt brake of 55% of GDP might be hit as soon as 2025.

The main source of the 2021 fiscal impulse comes from a technical change in the personal

income tax base, which was promised in the government’s election manifesto. However, the

actual change, voted through by Prime Minister Andrej Babiš’s ANO Movement along with the

opposition right-wing ODS, means a tax cut worth 1.7% of GDP. Along with other

adjustments, the reduction in tax revenues could approach 2% of GDP in 2021, bringing the

structural deficit to 6.5% of GDP.

We suspect the political motivation for the apparent fiscal irresponsibility on the part of Mr. Babiš has

been to break apart the opposition block that was forming between ODS and two smaller parties.

While these parties are on the center-right and hence close to ODS, they are known to be more

fiscally conservative. If Mr. Babiš does succeed in this potential goal, his only true rival for the

upcoming elections will be the Pirates, who are joining forces with the Movement of Mayors.

Fiscal policy has been closely watched and commented on by the central bank. Its staff’s

latest inflation forecast, which does not take the income tax cut into account, assumes

monetary policy tightening will start in mid-2021. The ČNB board communicated a less

hawkish stance in November, but has become more ambiguous since. We forecast limited

inflationary effects from the fiscal impulse, given that its GDP multiplier is not likely to exceed

0.5. Therefore, in our baseline scenario we have a single 25bp hike for 2021, followed by one

more hike in 2022. We nevertheless see long-term damage to public finances.

NUMBER OF VACANCIES DROPPED ONLY MARGINALLY AND HAVE STARTED TO RISE AGAIN

HOUSE PRICES HAVE SHOWN NO RESPITE IN THE PANDEMIC

Source: CZSO, MPSV, UniCredit Research

100

150

200

250

300

350

400

Jan-17 Jul-17 Jan-18 Jul-18 Jan-19 Jul-19 Jan-20 Jul-20

Unemployed Vacancies'000

95

100

105

110

115

120

1Q13 4Q13 3Q14 2Q15 1Q16 4Q16 3Q17 2Q18 1Q19 4Q19 3Q20

CZ ex-Prague Pragueyoy index

<date>

January 2021


CEE Quarterly


Large deficit and low EU funding to test bond spreads

Local demand for CZGBs could remain strong… …but a further rally may be curtailed by low borrowing from the EU. Potential tightening of bond spreads vs. peers Limited risks to the CZK

Strong domestic appetite for CZGBs allowed the CNB to avoid bond purchases in 2020 and

may blunt the effects of fiscal easing on bond yields. However, the average maturity of CZGB

issuance fell by a year between February and October 2020 to accommodate demand for

lower duration. Going into 2021, a further rally in yields would probably require diversifying

funding sources by borrowing from the EU at much lower borrowing costs. The 20Y CZGB

yield is above 1.50%, while the EU has borrowed for 30Y at 0.2%. Yet the Czech authorities

are planning to secure very little funding from SURE and NGEU loans. In the absence of an

anchor from cheap EU borrowing, the CZGB curve could also be affected by potential rate

hikes, expected to start earlier in Czechia than in the rest of the region. As a result, it is

possible that CZGB spreads to the region could tighten further in 2021.

Despite trade risks from the second wave of the pandemic, we see limited risk to the CZK,

which remains slightly undervalued.

LOCAL BUYERS DOMINATE THE CZGB MARKET CZGB ASW SPREADS COULD CLOSE FURTHER VS PEERS

Source: Ministry of Finance, CNB, Bloomberg, UniCredit Research



EUR bn 2020E 2021F 2022F





Bonds 5.4 6.0 5.4

Bills 0.2 1.7 0.9

Loans 0 0 0



IMF/EU/Other IFIs 0 0 0

Financing 21.3 27.1 24.3


Bonds 17.5 24.0 21.8

Bills 1.6 0.9 0.3

Loans 0.1 0.1 0.1


Bonds 2.0 2.0 2.0

IMF/EU/Other IFIs 0.1 0.1 0.1

Privatization/Other 0 0 0

Source: CNB, MoF, CZSO, UniCredit Research

EUR bn 2020E 2021F 2022F


C/A deficit -7.5 -6.0 -3.0



Banks 1.9 1.8 1.2

Corporates/Other 2.1 2.6 2.4



Banks 58.7 56.0 56.5


Financing 100.5 99.9 105.6

FDI (net) 0.9 2.3 2.8

Portfolio equity, net 1.0 0 0.2



Banks 1.9 1.8 1.2




Other 0 0 0


Memoranda:

Nonresident purchases of LC govt bonds 2.5 7.8 5.2


-30.0

-20.0

-10.0

0.0

10.0

20.0

30.0

40.0

Oct-16 Apr-17 Oct-17 Apr-18 Oct-18 Apr-19 Oct-19 Apr-20 Oct-20

Insurance companies Pension funds

Local banks Foreign investors

annual change in holdings, % of outstanding CZGBs

-20

0

20

40

60

80

100

120

Mar-20 Apr-20 May-20 Jun-20 Jul-20 Aug-20 Sep-20 Oct-20 Nov-20

POLGB 10Y HGB 10Y CZGB 10Yasset swap spreads, bp

<date>

January 2021


CEE Quarterly


Hungary Baa3 stable/BBB stable/BBB stable*

Outlook

We expect the Hungarian economy to recover 2020 losses by 1H22, growing by approximately 4.1% in 2021 and 4.3% in 2022

after a contraction of around 5.6% in 2020. The 2021 recovery could be incomplete due to the pandemic weighing on consumption

and investment in 1Q21, a negative fiscal impulse, and an only gradual rebound in tourism and productive investment. The budget

deficit could decline to around 6% of GDP in 2021 and below 3% of GDP in 2022, with public debt peaking at around 85% of GDP

in 2021. EUR-HUF could trade sideways in 2021-22 after sharp depreciation in 2019-20 but the long-term depreciation trend

remains intact. The NBH could keep rates on hold as inflation is likely to stay inside the target range.

Strategy

The 2038/A and 2041/A bonds could outperform the 5-7Y segment of the curve, supported by the NBH’s bond purchases.

Authors: Dan Bucșa, Chief CEE Economist (UniCredit Bank London) Ágnes Halász, Head of Economics & Strategic Analysis (UniCredit Bank Hungary)

KEY DATES/EVENTS

■ 14 Jan, 12 Feb, 9 Mar: CPI

■ 26 Jan, 23 Feb, 23 Mar: monetary policy decisions

■ 16 Feb, 2 Mar: 4Q20 GDP (flash, structure)

■ 12 Feb, 26 Mar: rating update from Fitch and S&P; Moody’s

GDP GROWTH FORECAST

INFLATION FORECAST

Source: HCSO, UniCredit Research


2018 2019 2020E 2021F 2022F

GDP (EUR bn) 136.0 146.0 123.3 127.3 138.4

Population (mn) 9.8 9.7 9.7 9.7 9.7



GDP 5.4 4.6 -5.6 4.1 4.3

Private Consumption 5.1 4.5 -2.4 2.6 4.8

Fixed Investment 16.4 12.2 -11.2 6.6 10.8

Public Consumption 1.8 3.5 -2.0 0.8 1.5

Exports 5.0 5.8 -9.0 6.9 6.8

Imports 7.0 7.5 -6.6 5.4 6.7


Real wage, change (%) 7.9 7.6 5.1 2.0 3.7



Budget balance -2.1 -2.0 -9.2 -6.0 -2.7

Primary balance 0.2 0.2 -6.2 -3.0 0.2

Public debt 67.5 63.7 84.6 85.4 83.4

External accounts

Current account balance (EUR bn) 0.5 -0.3 0.0 -0.1 1.5

Current account balance/GDP (%) 0.3 -0.2 0.0 -0.1 1.1


Net FDI (% of GDP) 2.3 -0.3 0.8 1.6 2.5





CPI (pavg) 2.9 3.6 3.4 3.0 3.4

CPI (eop) 2.7 4.0 2.6 3.6 3.7



3M money market rate (Dec avg) 0.13 0.16 0.75 0.60 0.60

USD/FX (eop) 280.9 294.7 297.4 276 273

EUR/FX (eop) 321.5 330.5 365.1 353 360

USD/FX (pavg) 270.2 290.7 308.0 287 276

EUR/FX (pavg) 318.8 325.4 351.2 357 359

Source: Eurostat, HCSO, NBH, UniCredit Research

*Long-term foreign- currency credit rating at Moody’s, S&P and Fitch, respectively

-8.0

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

2018 2019 2020E 2021F 2022F

yoy (%)

Private consumption Public consumption

Fixed investment Change in inventories

Net exports GDP

0.0

1.0

2.0

3.0

4.0

5.0

6.0

Dec-18 Jun-19 Dec-19 Jun-20 Dec-20 Jun-21 Dec-21 Jun-22 Dec-22

Annual inflation rate

Base rate

Inflation target

Target range

Core inflation excluding indirect taxes

yoy (%)

<date>


January 2021


CEE Quarterly

Reassessing growth drivers

Hungary is reassessing growth drivers… …with the government subsidizing the production of electric cars Tourism unlikely to recover fully in 2021… …and housing prices in Budapest could decline further Fiscal support to continue in 2021… …but a deficit of 6% of GDP in 2021 means a negative fiscal impulse of around 2.5%

The Hungarian economy has weathered the start of the COVID-19 pandemic worse than most

of its EU-CEE peers. Authorities admitted that car production and tourism, two growth drivers

in the past, became liabilities in 2020 and the government openly questioned its strategy of

relying excessively on the car sector and then moved swiftly to correct it.

With the future of combustion-engine cars in doubt, at least in the EU, the Hungarian

government signed agreements with car manufacturers to start producing hybrid and electrical

vehicles in Hungary. Audi started rolling out the Q3 hybrid in December 2020, with Mercedes

expected to produce an electric car starting in 4Q21. BMW plans to develop an electric platform

at its future Debrecen plant, although the launch of production might take longer than initially

expected. Bloomberg ranks Hungary sixth worldwide in the development of lithium-ion batteries,

with Korean and Japanese investment ongoing. All this comes at a fiscal cost that the

government is prepared to bear in order to safeguard employment. Public co-funding for these

projects ranges between 20% and 35% of total investment, by far the highest in CEE.

The outlook for tourism is less rosy in 2021-22, when we expect restrictions to remain in

place. The government is likely to keep borders closed at least in 1Q21. Danube cruises and

city breaks, on which tourism in Budapest relies, could rebound with the arrival of vaccines

but are unlikely to recover fully before 2023, probably reducing the GDP contribution of

tourism by at least 2pp in 2021 from its 2019 level. The impact could be greater due to

collateral damage to leisure services, employment and housing prices.

Housing prices in Budapest could correct further after a decline of around 10% in 2020, as

investment purchases for rent, one of the main pre-crisis drivers, have declined by 80-90%.

While mortgages will remain cheap, investors could redirect money to retail bonds as an

alternative investment that could offer similar yields, no yield volatility and no principal risk. If

housing prices fall further, the negative wealth effect could postpone household spending.

The start of a recovery might be delayed until 2Q21.

The government pledged one of the largest support packages in the region and spent around

5.6% of GDP on direct support in 2020 (or around 4.9% of GDP when excluding programs

with no or very limited impact on fighting the effects of the pandemic), with indirect support of

around 15.7% of GDP. Of this figure, 8.3% of GDP relates to the moratorium on loan

repayments, and the rest to guarantees and subsidized lending. Support will continue in 2021,

with the government changing its budget deficit target to 6% of GDP, down from around 9.2%

of GDP in 2020, but double the initial spending plan for 2021. Besides spending aimed at

containing the effects of the pandemic, the government will continue to subsidize foreign

investment in Hungary to ensure that productivity rises close to wage growth in the coming

years. Even so, the fiscal impulse is likely to be negative in 2021-22, at around 2.5% per year,

after a positive impulse of around 3% in 2020.

ANTI-CRISIS DIRECT SUPPORT AROUND 5% OF GDP IN 2020 INVESTMENT GRADE ANCHORED BY LOW FX PUBLIC DEBT

Source: HCSO, Ministry of Finance, UniCredit Research

0.0

1.0

2.0

3.0

4.0

5.0

6.0

Spending

Programs with no/limited direct anti-pandemic effectLoss subsidy for large companiesEnhancing efficiency programJob protection and creationTaxation and family protectionNational employment fundSupport for healthcare system

% of GDP

0

10

20

30

40

50

60

70

80

90

2015 2016.0 2017 2018 2019 2020E 2021F 2022F

HUF public debt FX public debt% of GDP

<date>


January 2021


CEE Quarterly

Public debt could peak above 85% of GDP in 2021 GDP growth expected at 4.1% in 2021 and 4.3% in 2022… …with a slow start to 2021 Car demand will shape the rebound The EBB could improve gradually EUR-HUF could trade sideways in 2021-22 Inflation is expected inside the target range in 2021-22… …with the NBH on hold

Public debt could peak this year above 85% of GDP, with a gradual decline starting in 2022

as budget deficits decline. A fall below 60% of GDP could be achieved late in the decade.

We expect the Hungarian economy to recover the losses from 2020 by 1H22, with the

economy growing by around 4.1% in 2021 and 4.3% in 2022, after contracting by around

5.6% in 2020. One reason for the expected incomplete recovery in 2021 is the weak start to

the year, with GDP likely to contract in 1Q21 after a poor performance in 4Q20. Pandemic-

related restrictions could weigh on private consumption, capex (especially by foreign

companies) and demand from Germany. The high number of COVID-19 cases and the strain

on the healthcare sector suggest that restrictions could be tightened in 1Q21 and probably

maintained until March. A gradual recovery starting in 2Q21 will depend on pandemic

containment and the speed of fiscal adjustment. Low private investment in 1H21 could be

offset by public investment, with disbursements from the 2014-20 EU budget expected to

continue, while disbursements from the new EU budget could start in earnest in 2022.

Exports will depend on global car demand. Brexit could lead to a further drop in exports to the

UK, but the most important markets remain the eurozone, the US and, indirectly, China. The

transition to electric vehicles is likely to take several years. Even so, we expect the trade

balance to improve in the coming years, with a C/A surplus possible in 2022 if tourism

revenues rebound as well. Adding large inflows from the EU and a gradual rebound in FDI,

the extended basic balance could exceed 3.5% of GDP in 2021-22.

We expect EUR-HUF to trade mostly sideways in 2021-22, helped by stable capital inflows

and excessive depreciation in 2019-20. The currency started 2021 with an undervaluation of

around 6%. However, the long-term depreciation trend is likely to continue in the coming

years, with a weaker HUF partly offsetting an increase in unit labor costs.

Inflation could remain inside the target range in 2021-22, but the inflation path could be more

volatile than in neighboring countries. In 1H21, a base effect from fuel prices could push

inflation temporarily back above 3%. At the same time, core inflation could fall in 1H21 amid

lower wage growth and cautious consumer spending. A rebound in household purchases

could push core inflation back above 3% in 1H22. The Hungarian economy is one of the most

open in Europe, potentially making it more vulnerable to supply shocks from supply-chain

disruptions. In addition, service prices could accelerate from 2H21 onwards, especially in the

underdeveloped healthcare system.

The NBH is likely to continue to move its actions away from short-term market signals in an

attempt to decouple interest rates from FX volatility. We expect the 1W deposit rate to return

to 0.6% only after a 1H21 inflation peak, with the policy rate remaining unchanged in 2021-22.

The NBH can purchase HUF 1.1tn in additional bonds at the end of the curve.

LIMITED SCOPE FOR DEPRECIATION IN 2021-22 NBH PURCHASES OF LONG-TERM HGBS

Source: HCSO, NBH, Eurostat, Bloomberg, UniCredit Research

68

70

72

74

76

78

80

82

300

310

320

330

340

350

360

370

Dec-15 Dec-16 Dec-17 Dec-18 Dec-19 Dec-20 Dec-21 Dec-22

EUR-HUF

HUF real effective exchange rate (rs)

0.0

10.0

20.0

30.0

40.0

50.0

60.0

0.0

100.0

200.0

300.0

400.0

500.0

600.0

2030/A 2031/A 2038/A 2041/A

HUF bn % of outstanding (rs)HGB purchases by the NBH since May 2020

<date>


January 2021


CEE Quarterly

Bonds at tenors of over 10 years more attractive

Foreign demand for HGBs could persist in 2021… …with longer-term bonds supported by NBH purchases No Eurobonds planned in 2021

In 2021, foreign inflows into HGBs could continue after reaching a three-year peak in 4Q20.

Several factors could contribute to good performance: 1. a more-stable currency than in 2020;

2. the ECB purchasing most (or all) net issuance in eurozone countries whose investors

diversify into EU-CEE; 3. availability of cheap borrowing from the EU; 4. lower financing

needs compared to 2020; and 5. NBH bond purchases at the long end of the curve.

We prefer Hungarian government bonds with maturities of more than 10 years due to NBH

support. This makes longer-term bonds less vulnerable to potential corrections because the

central bank has room to purchase sovereign bonds equivalent to 2.4% of GDP or 40% of the

expected budget deficit for 2021. In the event of market corrections, we see the 5-7Y

segment of the curve as more vulnerable because the Government Debt Management

Agency (AKK) will stop issuing 3Y bonds in 2021. Thus, the curve could bear-flatten, since

the NBH holds 40-50% of 2038/A and 2041/A bonds. A 30Y green bond in HUF could be

launched in April for local and foreign investors.

Eurobonds remain cheaper than HGBs when the latter are FX-hedged and could perform well

in 2021 given cheap out-of-market resources from the EU and no plans to issue Eurobonds.

NBH SUPPORT FOR BONDS AT TENORS OF OVER TEN YEARS 15Y ASW TO REMAIN TIGHTER THAN FOR SHORTER TENORS

Source: AKK, Bloomberg, UniCredit Research

GOVERNMENT GROSS FINANCING REQUIREMENTS GROSS EXTERNAL FINANCING REQUIREMENTS

EUR bn 2020E 2021F 2022F




Domestic 16.8 13.0 12.1

Bonds 7.8 4.7 3.4

Bills 2.0 1.8 1.8

Loans & retail securities 7.0 6.6 7.0


Bonds 2.5 1.7 0


Financing 31.5 25.0 19.4


Bonds 17.2 8.2 7.9

Bills 1.7 1.8 1.5

Loans & retail securities 9.9 9.4 8.0


Bonds 6.5 0 0


Change in fiscal reserves (- = increase) -4.8 4.1 0

EUR bn 2020E 2021F 2022F


C/A deficit 0 0.1 -1.5



Banks 5.3 3.7 3.7



Financing 21.8 19.2 14.5

FDI (net) 0.9 2.0 3.5

Portfolio equity, net 0 0 0



Banks 4.0 2.8 2.2



EU structural and investment funds 3.7 3.7 4.4


Memoranda:


International bond issuance, net 4.0 -1.7 0

Source: BNB, MoF, UniCredit Research

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

1Y 3Y 5Y 10Y 15Y 20Y

Change (pp) Aug-20 Dec-20HGB yield curve (%)

0

50

100

150

200

250

Dec-19 Mar-20 Jun-20 Sep-20 Dec-20

5Y ASW 10Y ASW 15Y ASWasset swap spreads, bp, bid

<date>


January 2021


CEE Quarterly

Poland A2 stable/A- stable/A- stable*

Outlook

We expect the Polish economy to recoup all 2020 losses in 2021, with economic growth expected at 3.5% in 2021 and 3.1%

in 2022, after a contraction of around 3% in 2020. Private consumption and fixed investment could lead the recovery after a

weak 1Q21 due to the second pandemic wave. Despite the NBP’s recent FX intervention, we believe that the PLN is competitive

and capital flows will remain supportive. We expect inflation to fall temporarily below target in 2021, rebounding in 2022. The

NBP could start normalizing rates in 2022, taking the policy rate to 1.00% by the end of next year.

Strategy

Polish bonds can rally further given low funding needs, local and eurozone demand, and cheap alternative borrowing from the

EU. We prefer POLAND EUR to POLGBs in 1Q21 due to valuation, FX risk for POLGBs and potential sales by local banks.

Author: Dan Bucsa, Chief CEE Economist (UniCredit Bank, London)

KEY DATES/EVENTS

■ 13 Jan, 3 Feb, 3 Mar: monetary policy decisions

■ 15/18 Jan, 15 Feb, 15/16 Mar: CPI

■ 19 Mar: rating update from Fitch

■ 12 Feb, 26 Feb: 4Q20 GDP (flash, structure)

GDP GROWTH FORECAST

*adjusted with the statistical error

INFLATION FORECAST

Source: Statistics Poland, UniCredit Research


2018 2019 2020E 2021F 2022F

GDP (EUR bn) 497.4 529.1 514.7 551.0 585.7

Population (mn) 38.4 38.4 38.4 38.4 38.4



GDP 5.3 4.6 -3.0 3.5 3.1



Public Consumption 3.5 6.1 3.1 1.0 1.0

Exports 7.0 5.2 -3.2 3.6 5.8

Imports 7.6 3.3 -5.0 3.9 5.8


Real wage, change (%) 5.3 4.2 1.3 2.1 2.5



Budget balance (w. PFR) -0.2 -0.7 -6.0 -4.6 -3.2

Primary balance (w. PFR) 1.1 0.5 -3.5 -2.1 -0.8

Public debt (w. BGK and PFR) 48.4 45.4 58.7 58.5 58.2

External accounts

Current account balance (EUR bn) -6.5 2.6 15.4 8.3 8.3

Current account balance/GDP (%) -1.3 0.5 3.0 1.5 1.4


Net FDI (% of GDP) 2.6 1.6 1.5 1.5 1.5





CPI (pavg) 1.7 2.3 3.4 1.6 2.8

CPI (eop) 1.1 3.4 2.3 1.9 3.2




USD/FX (eop) 3.76 3.80 3.75 3.48 3.37

EUR/FX (eop) 4.30 4.26 4.50 4.45 4.45

USD/FX (pavg) 3.61 3.84 3.90 3.61 3.42

EUR/FX (pavg) 4.26 4.30 4.45 4.44 4.44

Source: Eurostat, NSI, UniCredit Research


-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

2018 2019 2020E 2021F 2022F

yoy (%)

Net exports Change in inventories*

Fixed investment Public consumption

Private consumption GDP

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5

5.0


Headline inflation Core inflation

Inflation target Target range

yoy (%)

<date>


January 2021


CEE Quarterly

A swift recovery after the crisis

Poland’s quick action during the first wave of the pandemic… … contrasts with the handling of the second wave 2021 anti-pandemic support expected at 1.4% of GDP Unemployment expected to peak close to 7% in 2Q21 Full recovery in 2021, with growth expected at 3.5% in 2021 and 3.1% in 2022

Poland’s reaction to the pandemic is a tale of two halves. The country was quick to impose a

lockdown and led CEE in anti-pandemic financial support during the first wave. The government

opted to lend to companies mostly through the sovereign investment fund (PFR) rather than

implementing the state-guarantee bank lending model preferred by all other CEE countries. The

PFR’s rapid injection of loans allowed the economy to undergo a smaller slump in 2Q20 and

recovery in 3Q20 quicker than all other EU-CEE countries. The PFR’s Financial Shield,

equivalent to 3.1% of GDP in 2020, was supplemented by indirect support measures equivalent

to 1.7% of GDP. Direct support measures were around 2.4% of GDP, of which 1.4% of GDP

represents labor-market support, 0.7% of GDP exemptions from paying social security and 0.2%

of GDP other spending. The direct support was also front-loaded in April-May, with large

monthly deficits in April-May followed by surpluses between June and October 2020.

In contrast, the medical reaction to the pandemic has been late and insufficient in the second

wave. The Imperial College London model estimates that the actual number of daily cases is

between 70,000 and 170,000, compared to the 10,000 cases reported by the government,

due to insufficient testing and region-topping positivity rates. Like most of its neighbors,

Poland failed to develop a test-track-isolate framework to contain the spread of SARS-CoV-2.

The government readied a new Financial Shield worth PLN 35bn (1.4% of 2021 GDP) but it is

unclear how much the new lending measures will help the private sector. Rising leverage, the

uncertain economic outlook and the requirement to maintain employment capped the usage

of the first Financial Shield to 70% of allotment. The second one could fare worse. The

government also pledged to bring back labor market support in an attempt to protect

employment and prevent defaults. Pawel Borys, the head of the PFR, estimates that

companies affected by the second pandemic wave account for 10% of GDP.

In 2020, government measures helped almost 350,000 companies and 3.2mn employees.

However, the second pandemic wave could lead to more layoffs and the unemployment rate

could peak in 2Q21 close to 7% after reaching 6% in 4Q20. However, timely support in 1H21

could limit scarring effects and allow employment to recover fully by 1H22.

We expect the Polish economy to recover all losses from 2020 in 2021, growing by around

3.5% in 2021 and 3.1% in 2022. Given sizeable and timely support, last year’s contraction

was probably around 3%, factoring in a quarterly fall in GDP in 4Q21 amid heightened

restrictions. Moreover, we expect no rebound in 1Q21, when restrictions could be maintained

or even tightened if the strain on the healthcare sector increases further. In addition, a

negative fiscal impulse of around 1% in both 2021 and 2022 will slow the recovery.

ICL ESTIMATES FOR POLAND ARE THE HIGHEST IN EU-CEE FINANCIAL-SHIELD SUPPORT TO SHRINK IN 2021

Source: Ministry of Finance, Statistics Poland, UniCredit Research

0

20,000

40,000

60,000

80,000

100,000

120,000

140,000

160,000

180,000

BG HR CZ HU PL RO RS SK SI

ICL estimate range

Baseline ICL estimate of daily cases

Official no. of cases

official number of daily cases vs. estimate from the ICL model

0.0

1.0

2.0

3.0

4.0

5.0

2020 take-up 2020 limit 2021 limit

Large companies SMEs Microenterprises% of GDP

<date>


January 2021


CEE Quarterly

Household consumption expected to lead the recovery… … with public and real estate investment The PLN is competitive… …and supported by capital flows Inflation expected inside the target range… …with rate hikes probably beginning in 2H21

Despite a slow start to 2021 and less support from fiscal policy, we expect the Polish

economy to reach pre-crisis level faster than its neighbors owing to strong domestic demand.

Total wages could grow by more than 3% in real terms once the economy starts to recover in

2Q20, accelerating further in 2022. The good financial position of Polish households is shown

by intentions to make high-value purchases, which remain close to pre-COVID levels, while in

the rest of EU-CEE they are down by 10-30%. Bank surveys also show that Polish

households intend to increase leverage, but probably from 2Q21 onwards. A 7.7% increase in

the minimum wage and a 3.84% increase in pensions, doubled by two bonus payments6,

should support consumer spending in 2021, with an acceleration expected in 2022.

Investment could also rebound in 2021 and beyond. In 2020, EU fund inflows reached an all-

time peak. After a temporary dip in 2021, the record could be broken in 2022 through a

combination of disbursements from the 2014-20 EU budget, and borrowing and grants from

new EU facilities. In addition, we expect real estate investment to recover from 2H21 on,

earlier than in neighboring countries, given the size, depth and appeal the Polish market has

to foreign investors. In contrast, productive investment could recover gradually, returning to

pre-COVID levels only in 2022.

While the trade balance could deteriorate in 2021 compared to 2020, the reason is stronger

domestic demand, not currency competitiveness. The PLN remains cheaper than peers when

adjusted for unit-labor costs, and the trade balance improvement in 2020 happened on the

back of trade with the eurozone (mostly in euros) and with non-EU countries (a mix of

currencies). Thus, the NBP’s decision to intervene in the FX market may be related more to

preventing rapid appreciation amid strong investor appetite for EU-CEE assets, rather than to

provide a further boost to exports. Moreover, the high import content of exports makes

currency depreciation less of a clear-cut instrument to boost price competitiveness. We

expect rising EU fund inflows and FDI to add to a lower C/A surplus in keeping the extended

basic balance at around 5% of GDP in 2021-22, with EUR-PLN in a 4.40-50 range.

We expect inflation to fall below the 2.5% target in 2021 as core inflation could slow in

1H21amid lower service prices and temporarily weaker consumer demand. Despite tax and

regulated price increases, threats to achieving the target are minimal in 2021. The picture

might change in 2022, when both core and headline inflation could rise to the upper half of the

target range due to faster wage growth, a rebound in consumption and companies trying to

recoup lost margins by increasing prices. If this is the case, we expect the NBP to raise the

policy rate to 1% by end-2022, with other rate increases following in 2023.

THE PLN IS MORE COMPETITIVE THAN MOST OF ITS PEERS WHEN ADJUSTED FOR UNIT-LABOR COSTS

TRADE BALANCE IMPROVEMENT BASED ON TRADE WITH DEVELOPED AND EU COUNTRIES

Source: Eurostat, central banks, UniCredit Research

6The first bonus payment of around PLN 1,250 will be paid to all pensioners. The second one will go only to those making less than 120% of the average pension.

0.6

0.7

0.8

0.9

1.0

1.1

1.2

1.3

1.4

CZK HUF PLN RON BGN HRK SK (EUR)

Range (2009-20)

3Q20 level

Real effective exchange rates computed using unit labor costs1Q09 = 1, fall = real appreciation

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

Oct-16 Oct-17 Oct-18 Oct-19 Oct-20

Non-EU developed countries European Union

Developing countries Central and Eastern Europe

EUR bn

<date>


January 2021


CEE Quarterly

We prefer POLAND EUR to POLGBs in 1Q21

Polish sovereign bonds have room to rally in 2021 We prefer POLAND EUR to POLGBs in 1Q21

The combination of lower borrowing needs, large purchases by the ECB and cheap alternative

borrowing from the EU make Polish sovereign bonds attractive in 2021. We disagree with both

main arguments against a further rally, namely that 1. spreads to Bunds have tightened

excessively (not when considering alternative borrowing costs from SURE and NGEU) and

2. there is no room for local banks to buy bonds (there is, when considering that holdings are at

around 16% of assets for the whole system and some of the largest banks are state-owned).

That said, we prefer POLAND EUR to POLGBs in 1Q21 for three main reasons. First,

POLAND EUR are cheaper and offer better opportunities to acquire duration. Second, FX

risks are uncertain after the NBP’s FX intervention in December 2020. Third, POLGBs look

very expensive up to 10Y after banks purchased bonds at the end of last year to reduce their

tax base. Part of those purchases could be unwound this quarter.

BANKS HAVE ROOM TO PURCHASE MORE POLGBS POLGBS TOO EXPENSIVE UP TO 10Y TENOR

Source: Ministry of Finance, Bloomberg, UniCredit Research



EUR bn 2020E 2021F 2022F




Domestic 14.7 23.9 32.7

Bonds 14.7 21.5 28.2

Bills 0 2.4 4.5

Loans/Other 0 0 0


Bonds 5.4 7.0 4.8

Loans, IFIs, other 1.5 0.5 1.0

Financing 52.5 56.7 57.4


Bonds 33.3 35.5 38.4

Bills 2.5 4.5 4.5

Loans/PFR/Other 18.2 5.7 4.0


Bonds 5.3 5.0 5.0

Loans, IFIs, other 1.5 3.0 5.5

Change in fiscal reserves/Other (-=increase) -8.3 3.0 0

EUR bn 2020E 2021F 2022F


C/A deficit -15.4 -8.3 -8.3



Banks 11.1 10.5 10.5



Financing 82.8 83.3 80.6

FDI (net) 7.6 8.0 8.9

Portfolio equity, net -2.0 1.0 0



Banks 7.8 7.4 7.4




Other -4.0 -6.0 -5.0


Memoranda:

Nonresident purchases of LC govt bonds -2.6 1.9 1.5

International bond issuance, net -0.1 -2.0 0.2


0.0

50.0

100.0

150.0

200.0

250.0

300.0

350.0

400.0

450.0

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

18.0

Oct-15 Oct-16 Oct-17 Oct-18 Oct-19 Oct-20

% of total assets PLN bncommercial banks - holdings of sovereign bonds

-1.0

-0.8

-0.6

-0.4

-0.2

0.0

0.2

0.4

0.6

0.8

1.0

2020 2025 2031 2036 2041 2047 2052 2058 2063

POLGB POLAND Swap curveyields in EUR (%)

<date>


January 2021


CEE Quarterly

Romania Baa3 negative/BBB- negative/BBB- negative*

Outlook

We expect the Romanian economy to return to pre-COVID levels by 1H22, with GDP growth at around 3.7% in 2021 and 5.0%

in 2022 after a decline of 5.5% in 2020. Private consumption could recover from 2Q21 onwards if unemployment peaks in 1Q21.

Investment could be dominated by infrastructure spending, helped by higher inflows from the EU that could cover the C/A deficit.

The budget deficit could fall to around 7% of GDP in 2021 and 4% of GDP in 2022, with public debt peaking below 50% of GDP

in 2022 and the country preserving its investment grade. EUR-RON could shift to a 4.90-5.00 range in 2021.

Strategy

ROMGB and ROMANI bonds could rally due to predictable fiscal policy, cheap loans from the EU and lower net borrowing.

Authors: Dan Bucșa, Chief CEE Economist (UniCredit Bank London) Anca Negrescu, Senior Economist (UniCredit Bank Romania)

KEY DATES/EVENTS

■ monetary policy calendar remains suspended


■ 4 Feb: 2021 budget

■ 16 Feb, 9 Mar: 4Q20 GDP (flash, structure)

■ no rating updates during 1Q21

GDP GROWTH FORECAST

INFLATION FORECAST

Source: UniCredit Research


EUR bn 2018 2019 2020E 2021F 2022F

GDP (EUR bn) 204.5 223.3 212.5 225.8 242.6

Population (mn) 19.5 19.4 19.3 19.2 19.2



GDP 4.5 4.2 -5.5 3.7 5.0


Fixed Investment -1.1 17.8 1.0 1.5 6.8


Exports 5.3 4.0 -11.5 4.9 7.9

Imports 8.6 6.5 -6.5 5.2 6.6


Real wage, change (%) 29.7 8.9 3.4 3.4 3.6



Budget balance -2.9 -4.3 -9.8 -7.0 -4.0

Primary balance -1.5 -3.2 -8.3 -5.5 -2.6

Public debt 34.7 35.3 46.8 49.4 49.9

External accounts

Current account balance (EUR bn) -9.0 -10.5 -10.4 -10.6 -11.7

Current account balance/GDP (%) -4.4 -4.7 -4.9 -4.7 -4.8

Extended basic balance/GDP (%) -1.1 -1.5 -2.4 -1.2 -1.0

Net FDI (% of GDP) 2.4 2.2 1.0 1.3 1.3





CPI (pavg) 4.6 3.8 2.7 2.8 2.6

CPI (eop) 3.3 4.0 2.2 2.9 2.6




USDRON (eop) 4.07 4.26 3.97 3.87 4.28

EURRON (eop) 4.66 4.78 4.87 4.95 5.05

USDRON (pavg) 3.94 4.24 4.24 3.96 4.27

EURRON (pavg) 4.65 4.75 4.84 4.93 5.03

Source: Eurostat, NSI, UniCredit Research *Long-term foreign-currency credit rating at Moody’s, S&P and Fitch, respectively

-8.0

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

10.0

2018 2019 2020E 2021F 2022F

Private consumption Fixed Investment

Public consumption Change in inventories

Net exports GDPyoy (%, pp)

0.0

1.0

2.0

3.0

4.0

5.0

Dec-18 Dec-19 Dec-20 Dec-21 Dec-22

Consumer price inflation Inflation target

Target range Monetary policy rateyoy (%)

<date>


January 2021


CEE Quarterly

Looking for normality

Three-party governing coalition led by the PNL Coalition likely to hold for the next two years Pandemic containment and economic recovery are top priority… …as containment measures have been insufficient Anti-crisis support could fall to 3.1% of GDP in 2021 from 5.7% of GDP in 2020… …and will include grants for SMEs… …and loan guarantees for larger companies

A three-party coalition formed a new government following the parliamentary election held on

6 December 2020. The National Liberal Party (PNL) is the senior coalition partner but its

sway over the coalition is weak due to losing the election to the Social Democratic Party

(PSD). The new prime minister, Florin Cîțu, the former finance minister, is from the PNL, with

the coalition partners, the big-tent USR-PLUS and the Hungarian minority party, UDMR,

receiving deputy PM mandates; the speaker of the Senate is also from the USR.

The coalition is likely to hold at least until 2022. The PNL and the USR-PLUS cannot risk

early elections. The PNL’s approval ratings are likely to decline further due to the poor

management of the health crisis in 2020. If early elections are held, both parties would lose

ground to the far-right, anti-restrictions, nationalist and populist Alliance for the Unity of

Romanians (AUR), which surprisingly emerged as the fourth-largest party in parliament7.

The top priorities of the new government are the containment of the pandemic and economic

recovery. More testing and better contact-tracing are needed to lower the pressure on

intensive care units (ICU) and allow for the easing of restrictions. Vaccines are unlikely to

provide a fast way out due to lack of capacities and personnel, and mistrust among the

population. To support immunization, official communication must improve.

The risk is a slower recovery than the authorities are planning for. In 2020, the PNL minority

government implemented diversified financial support, but this was smaller in size than in

neighboring countries and many measures were delayed by the inefficient bureaucracy. This

contributed to Romania having the weakest rebound of all EU-CEE countries in 3Q20. If the

economy narrowly avoided GDP contraction in 4Q20 by remaining open while cases were

rising exponentially, the same might not be true in 1Q21 if ICU usage rises above 90%.

In 2021, direct and indirect anti-crisis support could fall to 3.1% of GDP from around 5.7% of

GDP in 2020. Despite furlough and part-time support being maintained, we expect

unemployment to peak above 6% in 2021, with a second wave of layoffs likely in 1Q21. This

could delay the recovery in consumption to 2Q21. Nevertheless, pent-up consumer demand

remains strong, as shown by borrowing intentions measured by banks. Thus, private

consumption could recover to pre-crisis levels by 4Q21. High leverage could limit the scope

for further guaranteed lending to SMEs, which reached 1.7% of GDP, with long-delayed

grants likely to have a bigger impact. In contrast, companies with turnover of more than

RON 20mn could benefit from the government’s guarantee scheme of almost 0.4% of GDP.

MORE RESTRICTIONS LIKELY IF ICU USAGE REMAINS HIGH PUBLIC DEBT COULD PEAK CLOSE TO 50% OF GDP IN 2022

Source: Oxford University, governments, Ministry of Finance, NSI, UniCredit Research

7For details of the election results, please see EEMEA Macro Flash – Romania: Surprising election result may be good news for reforms, 7 Dec 2020.

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

80.0

90.0

Aug-20 Sep-20 Oct-20 Nov-20 Dec-20

BG CZ HU RO SIICU bed usage (% of availble ICU beds)

10.0

15.0

20.0

25.0

30.0

35.0

40.0

45.0

50.0

55.0

-10.0

-9.0

-8.0

-7.0

-6.0

-5.0

-4.0

-3.0

-2.0

-1.0

0.0

2019 2020E 2021F 2022F

Budget balance Primary balance

Public debt (rs)

% of GDP

https://www.research.unicredit.eu/DocsKey/emergingmarkets_docs_2020_178717.ashx?EXT=pdf&KEY=l6KjPzSYBBGzROuioxedUNdVqq1wFeRoz3ZHJgdiqGPWPDmK11QJvg==&T=1

<date>


January 2021


CEE Quarterly

Romanian companies are not competitive Infrastructure spending to benefit from higher inflows from the EU The budget deficit could fall to 7% of GDP in 2021 and 4% of GDP in 2022 We expect GDP growth of 3.7% in 2021 and 5.0% in 2022 ROBOR rates could fall below 1.5% We expect EUR-RON to move to 4.90-5.00 range

The biggest issue for Romanian companies is poor competitiveness, both abroad and in

competition with domestic importers. The overvalued RON bears only part of the blame. Lack

of investment in the past four years amid a shifting tax environment (especially for foreign

investors) resulted in falling productivity, margins and employment in industry, even before the

crisis caused by COVID-19. Poor competitiveness is reflected in the trade deficit widening

in 2020. This sets Romania apart from its EU-CEE peers, as exports fell more than imports.

We see limited improvement in 2021-22 and only if demand for cars and ships recovers. The

gradual employment attrition in low-valued-added manufacturing could add to scarring in

services, delaying a return to pre-crisis employment to 2023 or later.

Another priority of the government is investment. Judging by 2020 performance, a rise in

infrastructure spending co-financed with EU funds is very likely. Delayed EU transfers from

the 2014-20 EU budget and grants from the NGEU, expected to arrive from 2H21 onwards,

will spur economic growth while being neutral for the budget deficit. The government’s

shortfall is likely to shrink from around 9.8% of GDP in 2020 to around 7% of GDP in 2021,

with a further reduction to around 4% of GDP in 2022. Risks are skewed to lower, rather than

higher budget deficits in 2021-22. As a result, public debt could peak just below 50% of GDP

in 2022, falling thereafter and remaining below the BBB median. Thus, we expect the rating

agencies to keep Romania’s sovereign rating at investment grade.

We expect economic growth at 3.7% in 2021 and 5.0% in 2022 after a contraction of 5.5% in

2020, with a return to pre-COVID GDP levels by 1H22. A quicker recovery may be delayed by

weakness in exports and manufacturing, the negative fiscal impulse in 2021, and little

contribution from credit growth, despite easier financial conditions. This is especially true for

corporate investment loans, as capex is likely to lag behind the economic recovery. The

outperformer could be mortgage loans, as housing prices have adjusted little during the

COVID-19 crisis, affordability ratios have remained high, and the Noua Casă guarantee

program supports a wide range of new buyers by having a very high ceiling at EUR 140,000.

Short-term interest rates could fall below 1.50% if the NBR cuts the policy rate to 1% and the

spread between ROBOR rates and the policy rate narrows from around 0.5pp in December

2020. Tighter fiscal policy and inflation inside the target range could support loose monetary

conditions in 2021-22. As happens every year, the NBR could let the market shift the EUR-

RON range higher around the February policy rate meeting to reduce some of the currency’s

overvaluation. A new range of EUR-RON 4.90-5.00 could be defended at both ends. We see

no threat to FX reserves, as EU transfers and loans, and FDI are able to cover the C/A deficit,

while net ROMANI issuance will remain positive.

In 2021, the biggest inflationary risk will come from the liberalization of the electricity market.

In March, retail prices could increase by around 15% for legacy contracts, if consumers do not

switch. An increase of at least 10% could push inflation temporarily outside the target range.

FDI STOCK IN ROMANIA LAGGING AND FALLING RECENTLY PUBLIC INVESTMENT COULD RISE AMID HIGHER EU FUNDS

Source: Eurostat, NSI, Ministry of Finance, UniCredit Research

0

5,000

10,000

15,000

20,000

25,000

30,000

35,000

Jun-08 Jun-10 Jun-12 Jun-14 Jun-16 Jun-18 Jun-20

Czechia Hungary RomaniaFDI stock (euro per capita)

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

2019 2020E 2021F 2022F

Capital expenditure

EU-funded projects

Public investment% of GDP

<date>


January 2021


CEE Quarterly

ROMGBs and ROMANIs likely to rally further

We expect bonds to rally in 2021… …as downgrade risk is priced out… …25% of external financing needs could come from the EU… …and net financing needs fall compared to 2020

In 2020, ROMGBs and ROMANIs were the cheapest bonds in EU-CEE for a good reason.

Political uncertainty threatened fiscal stability as spending on public wages and pensions

threatened to exceed tax revenues due to planned pension increases. We see a very small

risk of pensions increasing by more than 20% in the next two years. Meanwhile, both the PNL

and the USR-PLUS aim to reduce employment in central and local administration. Thus, a

first reason for a further bond rally is the more-sustainable fiscal policy we expect, which

should lead to yields pricing out the risk of sovereign downgrades.

Second, Romania is likely to replace around 25% of its external funding needs with loans

from the EU. This should anchor borrowing expectations lower. Third, pre-funding was higher

in 2020 than in previous years, with net FX issuance of EUR 9.7bn. For 2021 we expect

around EUR 4bn. Fourth, net issuance in Germany, France, Austria, Italy and the Netherlands

could be absorbed by the ECB in 2021, which usually bodes well for EU-CEE yields. In 1Q21,

we prefer ROMANIs to ROMGBs due to currency risk.

NET FUNDING NEEDS TO FALL IN 2021-22 ROMGBS YET TO PRICE OUT APPROX. 50BP IN DOWNGRADE RISK

Source: NBR, NSI, Bloomberg, UniCredit Research

GOVERNMENT GROSS FINANCING REQUIREMENTS GROSS EXTERNAL FINANCING REQUIREMENTS

EUR bn 2020E 2021F 2022F




Domestic 6.5 10.2 9.4

Bonds 5.8 7.9 8.1

Bills 0.4 1.0 1.0

Loans 0.3 1.3 0.3

External 2.0 0 2.5

Bonds and loans 2.0 0 2.5

IMF/EU/Other IFIs 0 0 0

Financing 29.4 25.9 21.7


Bonds 15.9 13.0 11.0

Bills 1.0 1.0 1.0

Loans and retail bonds 1.0 1.0 1.0


Bonds 11.7 4.5 4.0


Fiscal reserve change (- = increase) -3.6 3.4 0.1

EUR bn 2020E 2021F 2022F


C/A deficit 10.4 10.6 11.7



Banks 1.7 1.6 1.4



Financing 39.9 38.0 40.2

FDI (net) 2.1 2.9 3.2

Portfolio equity, net 0.1 0.1 0.1



Banks 1.6 1.4 1.3





Memoranda:




0

2

4

6

8

10

12

2020E 2021F 2022F

Eurobonds

ROMGBs

International financial institutions (including EU)

Net borrowingEUR bn

0

50

100

150

200

250

300

Dec-18 Jun-19 Dec-19 Jun-20 Dec-20

ROMGB 10Y POLGB 10Y HGB 10YAsset swap spreads (bp)

<date>


January 2021


CEE Quarterly

Slovakia A2 stable/A+ stable/A negative*

Outlook

The second wave of the pandemic in Slovakia has been severe, but its economic impact should be milder, coming mostly from

services sector and hampered by local restrictions, while manufacturing seems to be more resilient than in the spring. Anti-

COVID-19 measures might have to be kept in place for longer, and the economy may not begin to recover before late spring,

with the availability and efficiency of a vaccine being a key factor. Low support for vaccination, as suggested by recent polls

could endanger a recovery. Continuous uncertainty will drag on private investment and consumer confidence. However, a high

share of household spending on staples and new investment from Volkswagen are likely to support a recovery. Fiscal tightening

is projected to start in 2022.

Author: L'ubomír Koršnák, Chief Economist Slovakia (UniCredit Bank Czech republic and Slovakia)

KEY DATES/EVENTS

■ 11 Jan, 10 Feb, 10 Mar: industrial production


■ 16 Feb: flash 4Q20 GDP

■ 5 Mar: 4Q20 GDP structure

INFLATION TO REMAIN BELOW 2%

GDP RECOVERY TO BE DRIVEN BY REBOUNDING DOMESTIC DEMAND



2018 2019 2020E 2021F 2022F

GDP (EUR bn) 89.5 93.9 89.8 93.1 99.3

Population (mn) 5.4 5.5 5.5 5.5 5.5



GDP 3.8 2.3 -6.2 2.6 4.9



Public Consumption 0.2 4.7 0.0 -1.5 0.0

Exports 5.2 0.8 -11.2 7.4 8.6

Imports 4.9 2.1 -11.7 7.5 8.5


Real wage, change (%) 3.6 5.0 0.6 1.5 1.8



Budget balance -1.0 -1.4 -9.3 -7.2 -5.7

Primary balance 0.4 -0.1 -8.0 -5.7 -4.1

Public debt 49.9 48.5 60.0 65.0 66.7

External accounts



Extended basic balance/GDP (%) 0.0 0.2 -0.7 0.5 1.5

Net FDI (% of GDP) 1.3 2.2 -0.2 0.7 1.3


FX reserves (EUR bn) EUR EUR EUR EUR EUR

Months of imports, goods & services - - - - -


CPI (pavg) 2.5 2.7 1.9 1.5 1.9

CPI (eop) 1.9 3.0 1.5 1.8 2.0

Central bank reference rate (eop) EUR EUR EUR EUR EUR

USD/FX (eop) EUR EUR EUR EUR EUR

EUR/FX (eop) EUR EUR EUR EUR EUR

USD/FX (pavg) EUR EUR EUR EUR EUR

EUR/FX (pavg) EUR EUR EUR EUR EUR

Source: Eurostat, statistic office, UniCredit Research

*Long-term foreign-currency credit rating provided by Moody’s, S&P and Fitch, respectively

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

Ja

n-1

7

Ap

r-1

7

Ju

l-1

7

Oct-

17

Ja

n-1

8

Ap

r-1

8

Ju

l-1

8

Oct-

18

Ja

n-1

9

Ap

r-1

9

Ju

l-1

9

Oct-

19

Ja

n-2

0

Ap

r-2

0

Ju

l-2

0

Oct-

20

Ja

n-2

1

Ap

r-2

1

Ju

l-2

1

Oct-

21

Ja

n-2

2

Ap

r-2

2

Ju

l-2

2

Oct-

22

yoy (%)

-8.0

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

2018 2019 2020E 2021F 2022F

Domestic demand Net exports GDPyoy (%, pp)

<date>


January 2021


CEE Quarterly

More-resilient manufacturing to mitigate COVID-19 recession

Manufacturing more resilient in the second pandemic wave Higher share of spending on staples eases adverse effects on consumer spending Low support for vaccines could delay the recovery Private investment to be supported by new investment in car sector Adverse effects on employment have been mitigated by a furlough scheme… …but unemployment is still expected to rise Wage growth will be supported by a minimum-wage hike in 2021 Fiscal tightening has been postponed to 2022 Slovakia’s debt-brake law could be amended

The autumn wave of the pandemic in Slovakia was much more severe than the spring wave

in terms of cases, hospitalizations and deaths. However, the negative effects of this on the

Slovakian economy should be milder. Restrictive measures did not reach the severity they

had in the spring, although they were close (mobility in Slovakia, as measured by Google,

was 25-30% above its spring lows). Slovakian manufacturing seems to be particularly more

resilient, led by the key automotive industry. This is confirmed by data on electricity

consumption, on mileage associated with the transport of goods and on confidence in

industry, which climbed to a 2.5-year high at the beginning of the second pandemic wave.

However, falling car sales in Europe and Brexit threaten production in 1H21. Unlike in the

spring, domestic demand was the main source of the economic downturn at the turn of the

year. Restrictions on movement and the compulsory closing of operations have again mostly

affected the domestic tourism and recreation sectors. However, the decline in household

spending has been mitigated by the second-highest share of spending on staples in the EU

and, conversely, the second-lowest share of spending in the most vulnerable areas of

transport and social services in the EU. This should ease the return of consumption to pre-

pandemic levels in the recovery phase. Although the overall-adverse economic effects of the

second pandemic wave could be milder than in the spring, they are likely to last longer. The

economy is unlikely to begin to recover until late spring, with the availability and efficiency of a

vaccine being a key factor. With surveys showing that almost half of Slovakia’s population is

still expressing a refusal to be vaccinated, COVID-19 vaccines may not usher in a rapid

recovery. Therefore, economic activity could be hampered by recurring small waves of

infections and restrictive measures, especially in the winter season. Thus, Slovakia’s

economy is not likely to return to pre-pandemic levels before the summer of 2022.

Private investment could recover gradually in 2021, supported by Volkswagen’s newly

announced EUR 1bn (1.1% GDP) investment in the production of luxury cars (VW Passat,

Škoda Superb), with production scheduled to start in 2023. Local car producers will continue

to invest in greener engines – the share of Slovakian car exports associated with alternatively

powered vehicles has already exceeded 20%. The insufficient number of infrastructure

projects planned by Slovakia still drags on public investment, but stronger growth is still likely

on the back of inflows from the 2014-20 EU budget. The residential real estate market has

started to show signs that a price bubble is forming, driven by low interest rates and by

developers’ waiting for an amendment to the Building Act.

The adverse effects of the pandemic-induced economic downturn on employment have so far

been dampened by government measures. The associated decline in economic activity has

been reflected in a reduction in average working time rather than in declining employment.

We estimate that unemployment will peak close to 8.5% in mid-2021, just after the expected

end of furlough schemes. In the future, the government intends to create a permanent short-

time-work scheme in the form of a compulsory insurance contribution, without increasing the

tax burden. Wage growth is expected to accelerate this year, driven by a 7.4% increase in the

minimum wage to EUR 623. However, official wage figures will remain distorted by the fact

that more sick leave has been taken, at least in the first half of the year.

The government does not plan to undertake significant fiscal tightening this year. Slovakia’s

structural deficit, adjusted for the one-off pandemic costs, should remain unchanged at 5.6%

of GDP. Fiscal tightening is projected to start in 2022, with the structural deficit proposed to

decline by 1pp per year and the general government deficit falling from 9.7% of GDP in 2020

to 7.4% of GDP in 2021 and 5.4% of GDP in 2022. This includes a EUR 1bn (1.1% of GDP)

reserve for pandemic-related expenses in 2021. As a result, the government’s financing

needs will be close to EUR 10bn this year. Public debt is set rise above 60% of GDP,

exceeding all debt-brake thresholds. However, the debt brake has been temporarily disabled

and could be amended by Slovakia’s four-member government coalition.

<date>


January 2021


CEE Quarterly

Slovenia A3 stable/AA- stable/A stable*

Outlook

We expect the Slovenian economy to contract in 4Q20 and 1Q21 due to the current wave of the pandemic and related

restrictions in Slovenia and its key trading partners. A recovery starting in 2Q21 is likely, supported by the rollout of vaccines

and treatments, and continuing into 2H20. After a contraction of 6.4% in 2020, we expect 3.2% growth in 2021 and 4.2% 2021.

Public investment will have a greater role, supported by significant EU funding. Financing needs will remain high but Slovenia

has a lot of buffers and government bonds will be supported by ECB purchases. Political uncertainty has increased.

Author: Mauro Giorgio Marrano, Senior CEE Economist (UniCredit Bank, Vienna)

KEY DATES/EVENTS

■ 26 Feb: 4Q20 GDP

■ 11 Jan, 10 Feb, 10 Mar: Industrial production

GDP GROWTH FORECAST

INFLATION FORECAST

Source: SURS, UniCredit Research


2018 2019 2020E 2021F 2022F

GDP (EUR bn) 45.9 48.4 45.2 47.1 49.9

Population (mn) 2.1 2.1 2.1 2.1 2.1



GDP 4.4 3.2 -6.4 3.2 4.2




Exports 6.3 4.1 -11.0 5.8 9.9

Imports 7.2 4.4 -12.1 6.1 9.8


Real wage, change (%) 1.4 2.6 4.6 2.9 2.3



Budget balance 0.7 0.5 -8.6 -6.4 -5.0

Primary balance 2.7 2.2 -7.0 -4.7 -3.4

Public debt 70.4 65.6 82.5 82.3 80.5

External accounts




Net FDI (% of GDP) 2.0 1.5 1.1 1.5 1.4



Months of imports, goods & services


CPI (pavg) 1.9 1.7 -0.3 0.7 1.7

CPI (eop) 1.4 2.0 -1.2 1.6 2.0

Source: SURS, Eurostat, UniCredit Research

*Long-term foreign-currency credit rating at Moody’s, S&P and Fitch, respectively

-10

-8

-6

-4

-2

0

2

4

6

8

10

2016 2017 2018 2019 2020E 2021F 2022F

Household Consumption Government Consumption

Investments Inventories

Net Exports GDP Growth

yoy (%)

-2.0

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

Dec-17 Oct-18 Aug-19 Jun-20 Apr-21 Feb-22 Dec-22

yoy (%)

<date>


January 2021


CEE Quarterly

Recovery amid COVID-19 uncertainty GDP contraction in 4Q20 and 1Q21 due to second wave of pandemic Recovery in the remainder of 2021 assuming restrictions start to ease meaningfully in 2Q21 Large fiscal deficit in 2021 partly due to higher capital expenditure High financing needs but plenty of buffer Bonds supported by ECB purchases Increased political uncertainty

The containment measures introduced to fight the second wave of the pandemic in Slovenia

and its main trading partners are likely to have led to a renewed contraction of economic

activity in 4Q20. The contraction in 4Q20 is likely to be smaller than that in 2Q20. While

Google mobility data show a drop in mobility similar to that of April and May, electricity

consumption and freight traffic on Slovenian motorways suggest that industry was significantly

less affected than during the first lockdown. Our assumption is a GDP contraction of 4% qoq

in 4Q20, resulting in a full-year fall of 6.4% in 2020. Assuming no significant easing of

restrictions in Europe before the end of March, the Slovenian economy is likely to contract

also in 1Q21, although to a lesser extent than in 4Q20.

Starting from 2Q21, we expect a recovery in economic activity supported by the rollout of

vaccines and treatments and continuing into the second half of the year. This assumes a

meaningful easing of restrictions starting from 2Q21 and a successful vaccination rollout in

Slovenia and its trading partners, although uncertainty is very high in this respect. We expect

GDP to grow by 3.2% in 2021 driven by a rebound in consumption and investment. Investment

will also be supported by public spending, which, according to the 2021 budget, is to increase by

over 40%, from around EUR 2bn to almost EUR 3bn, 60% of which financed by EU funds

adding 2pp to growth. The rebound in exports will likely be almost fully offset by that in imports,

leading to a small contribution from net trade. In 2022, we see growth accelerating by 4.2%

driven by a boost from EU funding and faster growth in Slovenia’s main trading partners.

We expect the fiscal deficit to narrow from 8.6% of GDP in 2020 to 6.4% in 2021, with the

decline driven by the phasing-out of most of the support measures to mitigate the impact of

COVID-19 on GDP growth. After a support package estimated at around 5.5% of GDP in terms

of direct measures in 2020 (with an additional close to 5% in guarantees), direct support

measures related to the pandemic are estimated at 1.5% of GDP. These include compensation

for temporarily laid-off workers, subsidies for short-time work, partial compensation for fixed

costs, bonuses for health and other critical workers, and tourism vouchers. The reduction of the

expenditure relating to these measures will be partly offset by a significant increase in public

investment, which is to increase from 4.7% of GDP in 2020 to 6.7% of GDP in 2021. This is a

significant increase and a high level of investment compared to an average of 3.6% of GDP

from 2017 to 2019. Higher investment bodes well for medium-term growth but the main risk is

implementation, as also highlighted by the Slovenian Fiscal Council. Government debt, after

likely having increased to over 82% of GDP in 2020, could stabilize in 2021 before falling to 80%

if growth accelerates and the deficit is kept below 5% of GDP.

Financing needs will remain high but Slovenia has a lot of resources it can fall back on.

Assuming, as in government forecasts, a deficit of EUR 2.7bn in 2021 with scheduled debt

repayments of EUR 3.5bn, total financing needs will be EUR 6.2bn. However Slovenia has

various buffers: 1. government deposits of EUR 6.5nm; 2. an already approved EU loan of

EUR 1.1bn under SURE; 3. significant EU funding available for 2021-23 under NGEU

(EUR 5.6bn, EUR 3.6bn of which in RFF loans and the rest in grants); 4. the remaining

allowance from MFF 2014-20 (EUR 1.5bn); 5. MFF 2021-27 (EUR 4.6bn). These buffers

should support government bonds. In addition, Slovenian government bonds will be

supported by ECB purchases, which we estimate at around EUR 4.0bn in 2021. Under the

assumption that all financing needs will be covered by new bond issuance except for

EUR 1bn of pre-issuance, the ECB would be purchasing close to 80% of new issuance. At the

beginning of January Slovenia already issued EUR 2bn.

Political uncertainty increased after the pensioners’ party, DeSUS, left the four-party government

coalition in December. This left the government relying on the external support of the members

of parliament representing minorities and the nationalist party, SNS, for a 46/90-seat majority in

the National Assembly. At the time of writing, the opposition is considering a vote of

no-confidence, which, to succeed, would require the support of a majority in the National

Assembly and agreement on a new prime minister.

<date>


January 2021


CEE Quarterly

Bosnia and Herzegovina B3 stable/B stable/not rated*

Outlook

GDP data for 2Q20 and other high-frequency indicators for 3Q20 suggest that the economic downturn caused by the COVID-19

pandemic in 2020 will be lower than our previous forecast. We now expect a yoy contraction of -5.2% compared to -7.7%

previously. However, the development of the pandemic in recent months in the country and the surrounding area indicates a

high probability of a slower economic recovery or even stagnation in early 2021, so we have reduced our 2021 GDP growth rate

expectation from 4.9% to 4%. The economy will reach pre-crisis levels only in 2022, when we expect GDP growth of 4.5%. Financing of the 2021 fiscal deficit is assured thanks to the expected new arrangement with the IMF, at a level of approximately

EUR 750mn, around 4% of GDP. Risks to growth stem not only from a potential prolongation of the pandemic but also from

slower reforms than projected and a divisive political environment.

Authors: Hrvoje Dolenec, Chief Economist (Zagrebačka banka) & Nenad Golac, Senior Economist (Zagrebačka banka)

.

KEY DATES/EVENTS

■ 20 Jan: Foreign trade FY20

■ 25 Jan: CPI FY20

■ 25 Jan: Industrial Production FY20

■ 31 Mar: Balance of payments FY20

■ 31 Mar: GDP 4Q20

GDP GROWTH FORECAST

INFLATION FORECAST



2018 2019 2020E 2021F 2022F

GDP (EUR bn) 17.10 18.01 16.90 17.86 19.04

Population (mn) 3.50 3.49 3.48 3.47 3.46



GDP 3.7 2.7 -5.2 4.0 4.5


Real wage, change (%) 1.7 3.7 4.2 1.0 1.3



Budget balance 1.5 2.1 -4.0 --1.5 0.3

Primary balance 2.4 2.8 -3.1 -0.5 1.5

Public debt 35.8 34.9 38.9 38.0 36.5

External accounts



Extended basic balance/GDP (%) 0.6 -0.3 -4.0 -2.1 0.4

Net FDI (% of GDP) 3.0 2.0 1.4 2.1 2.6





CPI (pavg.) 1.4 0.6 -1.0 1.6 2.0

CPI (eop) 1.6 0.3 -1.0 2.7 1.9

1M money-market rate (Dec. avg.) -0.36 -0.44 -0.50 -0.47 -0.47

USD/FX (eop) 1.71 1.75 1.60 1.53 1.48

EUR/FX (eop) 1.96 1.96 1.96 1.96 1.96

USD/FX (pavg.) 1.66 1.75 1.72 1.56 1.50

EUR/FX (pavg.) 1.96 1.96 1.96 1.96 1.96

Sources: Central Bank of Bosnia and Herzegovina, Agency for Statistics of Bosnia and Herzegovina, UniCredit Research

*Long-term foreign-currency credit ratings are provided by Moody’s, S&P and Fitch, respectively

-6.0

-5.0

-4.0

-3.0

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

6.0

2016 2017 2018 2019 2020E 2021F 2022F

%

-3.0

-2.0

-1.0

0.0

1.0

2.0

3.0

De

c-1

3

Ju

n-1

4

Dec-1

4

Ju

n-1

5

De

c-1

5

Ju

n-1

6

De

c-1

6

Ju

n-1

7

De

c-1

7

Ju

n-1

8

De

c-1

8

Ju

n-1

9

Dec-1

9

Ju

n-2

0

De

c-2

0

Ju

n-2

1

De

c-2

1

Ju

n-2

2

De

c-2

2

yoy (%)

<date>


January 2021


CEE Quarterly

Smaller contraction in 2020 but slower recovery in 2021

Available data suggest that the economic downturn caused by the COVID-19 pandemic in 2020 will be lower than expected. Thus, we have changed our GDP forecast from -7.7% to -5.2% The recovery in 1H21 is likely to remain weak, but a pickup of growth is expected in 2H21 and in 2022 Main drivers of growth should be construction activity and export-oriented manufacturing sectors Bosnia and Herzegovina’s C/A expected to be funded by IFIs and EU funding and FDI iflows Bosnia and Herzegovina’s fiscal position remains sustainable despite an opening fiscal gap due to the pandemic

Data for 2Q20 and 3Q20 suggest that the contraction in 2020 will likely be smaller

than previously envisaged. We have therefore revised up our forecasts for 2020 from -7.7% to

-5.2%. Although the pandemic situation deteriorated significantly during October, only

relatively mild restrictive measures were introduced, which suggests that the economic

recovery continued in 4Q20.

The recovery in 1H21 is likely to be slower than previously envisaged as tighter restrictions

might have to be introduced in 1Q21 and B&H will also be affected by economic contraction in

some of its key EU trading partners. Although the reported numbers of infections in November

and at the beginning of December are somewhat lower than the peak in October, daily

numbers of deaths caused by COVID-19 are very high, probably indicating an inadequate

amount of testing. So there is risk of potential tighter restrictive measures in 1Q21, which

could cause a new economic downturn in the first quarter of 2021. We expect economic

recovery to start in 2Q21, supported by vaccination and treatments for COVID-19, and

continue in 2H21, enabling growth of 4% for the full year. In 2022, GDP growth is likely to pick

up to 4.5%. The main drivers of the acceleration are expected to be construction activity and

export-oriented manufacturing sectors, while slower recovery of personal consumption is

expected due to slower improvement in the labor market. Construction will likely continue to

outperform other sectors thanks to ongoing large infrastructure projects, especially involving

motorways, for which foreign financing has already been secured and on which work has

already started or been contracted for.

After widening from 3.1% to 6.2% of GDP in 2020 driven by a huge fall in services revenue

and remittances, the current account deficit will likely narrow to 5.1% in 2021 and 2.9% in

2022 driven by an expected acceleration in exports of goods and services and a recovery in

remittances. The large C/A deficit in 2020 was financed without major problems, as in 1H20,

under its Rapid Financing Instrument, the IMF disbursed emergency assistance equivalent to

around 2% of Bosnia and Herzegovina’s annual GDP. IMF financing plays a vital role in

catalyzing emergency assistance from the international community, in particular from other

IFIs, and the EU, which is expected to contribute assistance equivalent to 2.7% of Bosnia and

Herzegovina’s GDP; the rest is covered by FDI. In 2021, a likely new IMF arrangement should

contribute to covering external financing needs. After the local elections in October,

negotiations between B&H and the IMF on a new IMF arrangement got under way and are

expected to be concluded at the beginning of 1Q21. According to reports, the approximate

amount of new financing through that arrangement should be EUR 0.75bn, which is more

than 4% of the country’s annual GDP. Negotiations on the arrangement are focused on

defining the program of reforms, which includes, among other things, the adoption of a new

law on public procurement, unblocking the work of the B&H federal Securities Commission,

the establishment of a deposit insurance agency and reforms at state-owned companies.

Bosnia and Herzegovina’s fiscal position is expected to remain manageable, despite an

estimated fiscal deficit of around 4% of GDP in 2020 and 1.5% in 2021, with the help of IMF

financing and financing from other IFIs. Due to prudent fiscal policy in recent years, public

debt is still at a moderate level, despite unexpected expenditures related to the pandemic.

Major risks to Bosnia and Herzegovina’s growth outlook and long-term stability, besides

potential deterioration in the pandemic situation, stem from weak institutions and a divisive

political environment, which could slow the implementation of reforms and jeopardize funding

from IFIs.

<date>


January 2021


CEE Quarterly

North Macedonia Not rated/BB- stable/BB+ Neg*

Outlook

We expect North Macedonia’s GDP growth, after contracting by 5% in 2020, to be reported at 3.4% in 2021. Annual growth for

4Q20 and 1Q21 will likely remain negative, with the recovery gathering momentum in 2Q21, as long as there is a significant

easing of restrictions in Europe, supported by the rollout of vaccines and medical treatments for COVID-19. North Macedonia’s

fiscal deficit will likely narrow to 5% of GDP in 2021, with government debt increasing further. The 2021 budget is part of a five-

year fiscal framework envisaging gradual fiscal consolidation, which should bring the deficit to 2% of GDP by 2025. North

Macedonia is likely to issue debt internationally in 2021, with the rest of its funding needs covered by domestic issuance,

international financial institutions and fiscal reserves. We expect the country’s dispute with Bulgaria to be resolved and EU

accession negotiations to be formally opened in 1H21.


KEY DATES/EVENTS

■ 8 Mar: 4Q20 GDP

■ 19 Feb: rating update by S&P

GDP GROWTH FORECAST

INFLATION FORECAST

Source: state statistics office, UniCredit Research


2018 2019 2020E 2021F 2022F

GDP (EUR bn) 10.7 11.2 10.7 11.2 11.9

Population (mn) 2.1 2.1 2.1 2.1 2.1



GDP 2.9 3.2 -5.0 3.4 4.0


Gross capital formation** 1.7 9.5 -7.5 7.6 7.0

Public consumption 1.5 -0.8 8.8 2.1 2.0

Exports 12.8 7.2 -11.6 10.1 8.0

Imports 10.7 8.9 -9.3 9.7 7.3


Real wage, change (%) 4.2 3.5 6.4 2.5 2.5



Budget balance (central government) -1.8 -2.0 -8.1 -5.1 -3.6

Primary balance (central government) -0.6 -0.8 -6.9 -3.9 -2.5

Government debt (general government) 40.6 40.2 52.0 54.0 54.5

External accounts

Current account balance (EUR bn) 0.0 -0.4 -0.5 -0.4 -0.4


Extended basic balance/GDP (%) 5.7 0.0 -2.9 -0.4 -0.4

Net FDI (% of GDP) 5.6 3.3 1.2 3.1 3.1





CPI (pavg) 1.5 0.8 1.2 1.8 1.6

CPI (eop) 0.9 0.4 2.3 1.5 1.6

Central bank target - - - - -


USD-MKD (eop) 53.7 55.0 50.2 48.1 46.7

EUR-MKD (eop) 61.50 61.5 61.7 61.6 61.6

USD-MKD (pavg) 52.2 55.0 52.6 49.2 47.4

EUR-MKD (pavg) 61.5 61.5 61.6 61.6 61.6

Source: state statistics office, ministry of finance, National Bank of the Republic of North Macedonia, Bloomberg, UniCredit Research

*Long-term foreign currency credit rating as provided by Moody’s, S&P and Fitch, respectively

**Gross capital formation also includes inventories. The national statistics office does not publish a separate quarterly series for gross fixed capital formation.

-8

-6

-4

-2

0

2

4

6

8

2018 2019 2020E 2021F 2022F


Gross fixed capital formation Net exports

Other GDP

yoy (%, pp of GDP)

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

De

c-1

7

Ma

r-18

Ju

n-1

8

Sep

-18

De

c-1

8

Ma

r-19

Ju

n-1

9

Sep

-19

De

c-1

9

Ma

r-20

Ju

n-2

0

Sep

-20

De

c-2

0

Ma

r-21

Ju

n-2

1

Sep

-21

De

c-2

1

Ma

r-22

Ju

n-2

2

Sep

-22

De

c-2

2

% yoy

<date>


January 2021


CEE Quarterly

Slow recovery amid pandemic risk

A partial recovery in 2021 Inflation likely to slow in 2021 2021 budget: a significant increase in capital expenditure and additional support measures Fiscal consolidation plan and support for growth in 2021-25 North Macedonia is expected to issue debt internationally in 2021 Formal start of EU accession negotiations is likely to occur in 1H21

We expect growth, after contracting by 5% in 2020, to be reported at 3.4% in 2021. Annual

growth for 4Q20 and 1Q21 will likely remain negative as North Macedonia’s economy

continues to be affected by containment measures in North Macedonia and in those countries

that are its main trading partners. We expect these to remain in place until the end of March.

However, their impact on the economy will likely be smaller than it was in 1H20 for two

reasons. First, so far, the containment measures in North Macedonia have been looser than

they were in 1H20. Second, data show that a recovery in industry continued in October and

November, with the pace of annual contraction slowing further, while wholesale and retail

trade figures suggest that the services sector has been more affected. We expect the

recovery to gather momentum in 2Q21 assuming there is a significant easing of restrictions in

Europe starting from 2Q21, supported by the rollout of vaccines and medical treatments for

COVID-19. Downside risks are likely to be related to a more-protracted, negative impact from

the pandemic. In 2022, growth could strengthen to 4%, driven by a more-pronounced

economic recovery in North Macedonia’s main trading partners and higher domestic demand.

After reaching 2.3% yoy at the end of 2020, inflation is likely to slow to around 1.5% yoy

driven by various base effects. Inflation increased from -0.2% yoy in May to 2.3% yoy, mainly

driven by: 1. food prices (which accounted for 25% of the increase); 2. the hike in electricity

prices in August (20% of the increase); 3. rising fuel prices due to a hike in the excise tax on

oil derivatives (20% of the increase); and 4. an increase in services inflation driven by

restaurants and hotels and health services. The effect of the hike in electricity prices and the

rise in excise tax on headline inflation will likely be reversed in May and August, respectively,

pushing headline inflation towards 1.5% by the end of the year.

The central government deficit as a percentage of GDP is likely to narrow from around 8% to

5% in 2021, reflecting an improvement in the economic outlook and the expiration of most

support measures. The full details of the 2021 budget are not yet available, but, on a positive

note, the budget includes a significant increase in capital spending. If implemented, this would

raise spending from 2.4% of GDP to 3.2% of GDP, boosting growth by almost 1pp in 2021.

The spending focuses on road and railway projects, energy and utility projects and projects in

other areas, such as health care and education. In addition, the budget also allocates

resources to cover support measures, although the amount has not been disclosed yet. After

announcing four support packages amounting to EUR 1bn, or around 9.5% of GDP, the

government announced that a fifth package will be announced in February. Large deficits in

2021 and 2022 mean that government debt will likely increase further in these two years.

The 2021 budget is part of a five-year fiscal framework, which aims to achieve 1. fiscal

consolidation, targeting a reduction of the government deficit to 2% of GDP by 2025 through

the improvement of budget revenue collection, and a reduction and restructuring of current

expenditure; 2. a boost to government investment, which is expected to amount to EUR 3.1bn

in 2021-25, with 40% of its funding expected to come from the state budget and 60% from

international financial institutions and the EU, and 3. reforms to boost growth, for example, by

supporting innovation, maintaining a greater focus on exports and reforming North

Macedonia’s education system. Details of the plan have not been published yet.

With the scheduled repayment of a EUR 500mn Eurobond, we expect North Macedonia to

continue to issue debt internationally in 2021, after issuing EUR 700mn in 2020. The rest of

its financing needs, which we estimate amount to around EUR 700mn, are likely to be

covered by domestic issuance, borrowing from international financial institutions, fiscal

reserves and the sale of state assets.

We expect formal EU accession negotiations to start in 1H20, after having been blocked by a

dispute with Bulgaria, which has vetoed the opening of such negotiations due to a dispute regarding

historical, identity and language issues. Bulgaria argues that North Macedonia has not honored a

2017 treaty to improve bilateral ties. Discussions between the two countries are ongoing.

<date>


January 2021


CEE Quarterly

Russia Baa3 stable/BBB- stable/ BBB stable*

Outlook

Economic growth could remain close to 2% in 2021-22 due to a negative fiscal impulse in 2021, pandemic-related negative

effects on supply and demand, factors affecting consumption growth and a neutral growth impact from external trade.

Investment could accelerate in the coming years. Inflation is likely to return to below the target, prompting a reassessment of the

inflation target beyond 2022. Monetary policy may remain accommodative for longer. USD-RUB could be less volatile, but the

ruble could depreciate against the euro.

Strategy The OFZ curve could bull-flatten in 2021, helped by recent rate cuts, the return of foreign investors and limited sanction risks.

Authors: Artem V. Arkhipov, Head of Macroeconomic and Strategic Research (UniCredit Russia) Ariel Chernyy, Economist (UniCredit Russia)

KEY DATES/EVENTS

■ 12 Feb, 19 Mar: monetary policy meetings

■ 4-6 of each month: CPI

■ 15-22 of each month: monthly economic data

GDP GROWTH FORECAST

INFLATION FORECAST

Source: CBR, Rosstat, UniCredit Research


2018 2019 2020E 2021F 2022F

GDP (EUR bn) 1,404.4 1,506.3 1,272.3 1,269.3 1,279.7

Population (mn) 147.0 147.0 147.0 146.9 146.9

GDP per capita (EUR) 9,626.0 10,327.5 8,656.2 8,638.8 8,713.9


GDP** 2.8 2.0 -3.9 2.3 2.2




Exports 5.5 -2.3 -6.0 6.0 1.5

Imports 2.6 3.4 -14.0 9.0 5.0

Monthly wage, nominal (EUR) 586.8 655.5 604.6 600.9 604.7

Real wage, change (%) 8.5 4.8 1.5 2.5 2.0



Budget balance 2.6 1.8 -5.1 -3.4 -1.8

Primary balance 3.4 2.5 -4.1 -2.2 -0.6

Public debt 12.1 12.5 18.3 19.4 20.8

External accounts




Net FDI (% of GDP) -1.4 0.6 -1.0 -0.6 -0.7





CPI (pavg.) 2.9 4.5 3.4 3.6 3.5

CPI (eop) 4.3 3.0 4.9 3.5 3.5




3M money market rate (year avg.) 7.7 7.8 5.5 4.5 4.6

USD-RUB (eop) 69.5 61.9 73.9 70.5 72.0

EUR-RUB (eop) 79.5 69.3 90.7 90.2 95.0

USD-RUB (pavg.) 62.7 64.7 72.2 71.9 71.2

EUR-RUB (pavg.) 74.0 72.5 82.5 88.2 92.6

Source Rosstat, CBR, UniCredit Research *Long-term foreign-currency credit ratings are provided by Moody’s, S&P and Fitch, respectively **2018-19 GDP figures were revised on 30/12/2020. Updated component breakdown is not available yet.

-10

-8

-6

-4

-2

0

2

4

6

2018 2019 2020E 2021F 2022F

yoy (%)Personal Consumption Public ConsumptionFixed Capital Formation InventoriesNet export Gross Domestic Product

0%

5%

10%

15%

20%

2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022

Headline CPI Key CBR rate Target CPI

Forecast

<date>


January 2021


CEE Quarterly

Gradual recovery from shallow recession

Second wave of COVID-19 much stronger than the first… …but restrictions are far milder… …which led to a softer decline in activity in 4Q20… …but a slower recovery thereafter GDP will only recover to pre-COVID-19 levels in 2022… …as the fiscal impulse turns negative in 2021 Consumer spending will be hardest hit: both from changes in fiscal spending… …and due to higher mortgage payments after the 2020 lending boom

The second wave of the COVID-19 pandemic has affected Russia considerably more than the

first. The number of infections was almost three times higher in November-December than in

May-June. In contrast, restrictions were much weaker in 4Q20 than during the first wave and

mostly focused on retail, catering and leisure activities, with no strict lockdowns and much

milder constraints on businesses. High-frequency indicators pointed to a much higher level of

activity in 4Q20 than in 2Q20: GPS tracking showed that self-isolation had almost halved

compared to the spring, while the volume of processed payments was less than 10% below

normal levels in 4Q20, compared to almost 30% lower in 2Q20. Adding a positive base effect,

GDP likely fell by just 1-1.5% qoq in 4Q20, bringing the full-year decline to about 4.0% yoy.

On the flip side, insufficient containment measures mean that the recovery from the second

wave will be slower and take longer compared to the sharp rebound in 3Q20. Russia was one

of the world’s first countries to begin vaccination campaigns using the locally-developed

Sputnik-V vaccine, but a shortage of production facilities could postpone significant results to

2H21. Overall, the economy is only likely to recover to pre-COVID-19 output levels by the end

of 2022. We expect annual GDP growth to only marginally exceed 2% yoy in 2021-22.

Weak economic growth stems from the expected withdrawal of support measures. The

stimulus provided in 2020 will not continue in 2021: deferred tax payments and interest on

loans will have to be paid off, credit institutions will have to revalue their assets and fully

provision for bad loans etc. The fiscal impulse will become negative in 2021. The non-oil

budget deficit could decline by almost 2pp to about 7.9% of GDP, with the headline figure

down from 5.0% of GDP to 3.4%.

Fiscal tightening will mostly curb consumption. While the government plans to further increase

public investment in 2021, household spending could contract. In 2022, the government plans

to keep total fiscal spending almost unchanged, cutting the budget deficit further to below 2%

of GDP. Another factor that is going to slow consumer spending in 2021-22 is the rapid

increase in mortgage loans. The government-backed discounted-rate mortgage program,

recently extended to mid-2021, is supporting lending and construction activity. The volume of

mortgages increased by almost 20% in 2020, with the annual growth rate of new loans

exceeding 100% in October-November 2020. The program led to an increase in household

mortgage payments which will shave off about 0.3-0.5% of household income that could

otherwise be used to finance consumer spending in 2021-22. In a broader context, in four of

the last five years, consumption grew faster than household income. This gap was, to a large

extent, determined by a boom in consumer lending.

NUMBER OF CASES MUCH HIGHER DURING SECOND WAVE WHILE SELF-ISOLATION LEVELS ARE MUCH LOWER

Source: Russian Ministry of Healthcare, Yandex, UniCredit Research

0

5,000

10,000

15,000

20,000

25,000

30,000

Mar-20 Apr-20 May-20 Jun-20 Jul-20 Aug-20 Sep-20 Oct-20 Nov-20

Moscow Regions

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5

Feb-20 Mar-20 Apr-20 May-20 Jun-20 Jul-20 Aug-20 Sep-20 Oct-20 Nov-20

Min. Moscow Weighted avg. Max.

<date>


January 2021


CEE Quarterly

Support to consumption from lending is slowing down

The recovery in consumption will be muted Investment, on the other hand, is supported by low interest rates and government infrastructure spending Net contribution to growth from the external sector could be close to zero The ruble is likely to recover after 2020 losses… …reversing pressure on inflation from FX pass-through… …and resulting in inflation persistently below the target over the forecast period The CBR might start preparing markets for a lower inflation target… …reducing long-term rates and supporting prices of assets denominated in ruble.

Since the start of 2016, outstanding consumer loans have nearly doubled, reaching historically

high levels as a percentage of GDP or as a share of household income. However, the potential

for further increase is limited. Consumer credit growth was slowing even before the pandemic

and in the following years we expect much lower growth rates compared to 2018-19. Without

credit support and slowed by the negative fiscal impulse and increased long-term debt service

payments, unlike consensus, we do not expect a major pickup in consumer spending in 2021-22.

At 2.5% per year, our modest forecast for consumption growth is actually the key reason for

our relatively soft overall GDP growth forecast.

Fixed capital formation, on the other hand, is likely to accelerate in 2021-22, driven by

ongoing government support for infrastructure projects and various tax and regulatory

incentives to stimulate investment. Historically low interest rates will also contribute, with

long-term OFZ yields and lending rates expected to remain at or even below current levels

for the forecast period, given a lack of inflation pressure and strong macroeconomic

fundamentals. We expect investment spending growth to exceed 5% yoy by 2022.

After a massive decline both in volume and value in 2020, exports are set to once again become

a growth factor in 2021-22, as oil prices and the volume of Russian oil exports recover to pre-

COVID-19 levels, and as non-oil exports are supported by a lower real exchange rate after a

sharp depreciation in 1H20. However, an increase in imports driven by consumption and

investment spending will push the net contribution to growth from net exports to around zero.

In 2020, the ruble weakened considerably due to much lower FX revenue from oil and gas

exports and portfolio outflows amid weak global demand for local-currency EM bonds. As

the situation in the global economy gradually returns to normal, both FX export revenue and

demand for Russian assets are likely to increase, supporting the ruble. We expect USD-

RUB to appreciate further from current levels in 2021 and to stay approximately flat in 2022.

The FX pass-through has always been a key short-term driver of inflation in Russia. In 2020, price

growth temporarily overshot the CBR target due to high ruble volatility in October-November. In

2021, however, with no depreciation pressure and domestic demand still subdued, inflation is likely

to slow down noticeably. We expect year-end inflation of 3.5% yoy with risks tilted to the downside.

Supply shocks, such as volatile food prices, could affect inflation in both directions.

In our view, below-target inflation is not just a temporary phenomenon but a sign that in the

current economic conditions the CBR’s inflation target of 4% is too high. Absent supply

shocks such as tax increases or volatility in world commodity or food prices, inflation is

unlikely to accelerate in 2022 and beyond. This leaves the door open for the CBR to cut its

inflation target to close to 3% in 2023 or later, with the communication thereof starting

earlier. The key rate could remain on hold around current levels until end-2021 or even

beyond, with risks tilted towards more cuts.

BUDGET IMPULSE TO TURN NEGATIVE INTEREST RATES AT HISTORICAL LOWS

Source: CBR, Russian Ministry of Finance, Rosstat, UniCredit Research

7,678 8,764 8,504 8,626

1,7842,261 2,773 2,386

5,733

8,888 7,035 7,134

-6.0

-5.0

-4.0

-3.0

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

0

5,000

10,000

15,000

20,000

25,000

2019 2020 2021 2022

GDP (%)RUB bn

Fiscal spending, unclassified items

social-like investment-like

other budget balance, rs

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

Mar-10 Mar-12 Mar-14 Mar-16 Mar-18 Mar-20

Key rate Business loans, <1y OFZ, 10y

<date>


January 2021


CEE Quarterly

Better demand for OFZ in 2021

The OFZ curve could bull-flatten in 2021… …helped by recent rate cuts, the return of foreign investors and limited sanction risks.

The approaching end of the rate-cutting cycle, ruble depreciation and a fear of new sanctions

led foreign investors to reduce their positions in OFZ. In 2021, these investors could return to

the OFZ market for several reasons. First, the curve bull-steepened significantly in the last

year, as only a small part of recent rate cuts had been reflected in longer-term yields. With

financing needs expected to fall, the curve could bull flatten in 2021. Second, we see limited

risks of ruble deprecation against the dollar. That said, its performance against the euro could

be affected by a rising EUR-USD. Third, the risks of significant sanctions imposed by the new

US administration are probably overblown. While President Joe Biden could take a tough

stance on Russia, the likelihood of market-moving sanctions, such as further curtailing the

Russian government and financial sector’s access to foreign funding, is probably low.

THE OFZ CURVE COULD FLATTEN FURTHER FOLLOWING CUTS FOREIGN HOLDINGS OF OFZ COULD RISE AGAIN

Source: Russian Ministry of Finance, CBR, UniCredit Research



EUR bn 2020E 2021F 2022F




Domestic 7.1 11.2 11.5

Bonds 7.1 11.2 11.5

Bills -- -- --

Loans 0 0 0

External (bonds and loans) 4.8 0.6 2.1

Other 0 0 0

Financing 76.6 54.4 36.0


Bonds 61.7 41.6 33.7

Bills -- -- --

Loans 0.1 0.6 0.6


Bonds 3.6 3.5 2.6

Other 0 0 0

Privatization/Other 0 0 0

revaluation 0 0 0

Change in budget accounts, "+": decrease, "-": increase

11.2 8.7 -0.9

EUR bn 2020E 2021F 2022F


C/A deficit -28.7 -12.2 -23.1

Amortization of medium and long-term debt 34.0 38.8 38.6


Banks 2.7 3.5 3.9



Financing 55.9 62.0 46.1

FDI (net) -12.2 -7.3 -8.7

Portfolio investments (net) -2.4 -2.1 -2.2



Banks -6.4 -5.6 -1.0



other investment (net) -13.6 -5.4 -9.7

Change in FX reserves (“-” = increase) 13.7 7.8 -9.0

Memoranda:

Nonresident purchases of LC gov't bonds 0 4.1 7.7

International bond issuance, net -1.2 2.9 0.5

Source: CBR, Rosstat, Russian Ministry of Finance, UniCredit Research

-2.5

-2.0

-1.5

-1.0

-0.5

0.0

Repo rate Mosprime3M

5Y IRS 5Y OFZ 10Y IRS 10Y OFZ

12M change (pp)

0.0

10.0

20.0

30.0

40.0

50.0

60.0

Sep-12 Sep-13 Sep-14 Sep-15 Sep-16 Sep-17 Sep-18 Sep-19 Sep-20

Foreign holdings of OFZ (% of marketable debt)

Foreign holdings of OFZ (% of fixed-coupon OFZ)

<date>


January 2021


CEE Quarterly

Serbia Ba3 positive/BB+ stable/BB+ stable*

Outlook

After contracting 1.1% in 2020, we expect Serbia’s economy to grow by 4.2% in 2021. Investment, in particular public

investment, and consumption are likely to be the main drivers. After the large fiscal stimulus in 2020, there is limited scope for

further stimulus if the government wants to stabilize its debt. Inflation is likely to remain below the target in 2021. While not in our

baseline, the NBS might resort to reducing interest rates further if the growth outlook deteriorates. The EU stepped up its

commitment to the Western Balkans. Negotiation with Kosovo will continue in 2021. A new IMF program is likely to be agreed

after the current one expires.

Strategy

Interest rate cuts, lower financing needs in 2021 and less pressure on the currency could support government bonds. SERBGB

yields could also benefit from a rally in its EU neighbors.


KEY DATES/EVENTS

■ 14 Jan, 11 Feb, 11 Mar: NBS monetary policy meetings

■ 12 Jan, 22 Feb, 12 Feb: CPI inflation

■ 1 Feb: 4Q20 GDP

■ 12 Mar: Moody’s to update sovereign rating

■ 19 Mar: Fitch to update sovereign rating

GDP GROWTH FORECAST

INFLATION FORECAST

Source: SORS, UniCredit Research


2018 2019 2020E 2021F 2022F

GDP (EUR bn) 42.9 46.0 46.2 49.0 52.0

Population (mn) 7.0 6.9 6.9 6.9 6.8



GDP 4.5 4.2 -1.1 4.2 4.2




Exports 7.5 7.7 -6.6 7.9 8.7

Imports 10.8 10.7 -4.4 6.7 7.9


Real wage, change (%) 2.0 8.5 6.9 3.1 2.9



Budget balance 0.6 -0.2 -8.0 -3.5 -2.0

Primary balance 2.8 1.8 -6.0 -1.5 -0.1

Public debt 54.4 52.9 59.0 59.4 58.2

External accounts


Current account balance (% of GDP) -4.8 -6.9 -5.7 -5.5 -5.5

Extended basic balance/GDP (%) 2.5 0.8 -0.8 0.3 0.3

Net FDI (% of GDP) 7.4 7.7 5.0 5.8 5.8





CPI (pavg) 2.0 1.8 1.6 1.8 2.3

CPI (eop) 2.0 1.8 1.3 2.1 2.4




USD/FX (eop) 103.4 104.9 95.7 92.1 89.6

EUR/FX (eop) 118.2 117.6 117.6 117.9 118.3

USD/FX (pavg) 100.2 105.2 103.2 95.6 90.6

EUR/FX (pavg) 118.3 117.9 117.6 117.7 117.8

Source: Bloomberg, Eurostat, SORS, NBS, Public Debt Agency, UniCredit Research


-4

-2

0

2

4

6

8

2018 2019 2020E 2021F 2022F


Gross fixed capital formation Net exports

Inventories and discrepancy GDP

yoy (%, pp of GDP)

0

1

2

3

4

5

6

Dec-17 Jun-18 Dec-18 Jun-19 Dec-19 Jun-20 Dec-20 Jun-21 Dec-21 Jun-22 Dec-22

Headline inflation Inflation target

Target range Core inflationyoy (%)

<date>


January 2021


CEE Quarterly

Recovery amid high uncertainty and risks

Recovery to start in 2Q21 Investment and consumption will likely be the main drivers of growth Growth expected to strengthen in 2022 Limited scope for fiscal stimulus in 2021 Government debt ratio to increase somewhat further before falling in 2022

After experiencing one of the smallest contractions in the region in 2020, at -1.1%, we expect

Serbia’s economy to grow 4.2% in 2021. In 4Q20, we assume modest GDP growth qoq,

which would make Serbia the outperformer in CEE. This is due to milder COVID-19

restrictions compared to the majority of CEE countries and significant government investment

of around RSD 90bn (1.5% of GDP) in 4Q20. In 1Q21 we assume a small contraction qoq,

reflecting the likely introduction of tighter restrictions and economic contractions in most of the

EU, Serbia’s main trading partner, in which case government investment should partially offset

these drags on growth. We expect the recovery to take hold in 2Q21, following a significant

easing of restrictions in Europe, and to continue in 2H21, supported by the rollout of vaccines

and medical treatments for COVID-19. Uncertainty around these issues is very high.

Investment and consumption are likely to be the main drivers of growth in 2021. According to

the 2021 budget, the government plans to invest RSD 330bn (or 5.7% of GDP), mainly in

infrastructure projects, a 15% increase compared to 2020. Government investment has

accounted for around 20% of total investment in the past two years. Private investment will

also contribute to growth, driven by the recovery in exports and confidence in the second part

of the year and low interest rates. Private consumption will probably start to recover from

2Q21 and will be supported by increases of 4.6% in public wages, 5.9% in pensions and 6.6%

in the minimum wage. Public consumption will also contribute to growth although to a lesser

extent than in 2020. We assume that the rebound in exports will be offset by imports, leading

to a zero contribution of net exports.

In 2022, we see growth at 4.2%, supported by domestic demand and a further rebound in

Serbia’s main trading partners.

After one of the largest fiscal support package in 2020, at 12.5% of GDP, there is limited

scope for further stimulus if the government wants to stabilize its debt. The 2021 budget

envisages a deficit of 3% of GDP and a slight reduction of government debt as a percentage

of GDP. However, as also highlighted by the Fiscal Council, these estimates are based on a

somewhat optimistic GDP growth forecast of 6% and do not include new support measures

which might be required if the pandemic does not improve. Under our more conservative GDP

growth assumptions, we expect a somewhat larger deficit, at 3.5% of GDP, which might not

be sufficient to stabilize debt in 2021. In 2022, we see the fiscal deficit narrowing to 2% of

GDP and government debt falling to 58.0% of GDP. State-owned enterprises continue to

represent a fiscal risk, as also shown by the around 150% increase in subsidies in 2020.

Positive progress has been made in this area, for example the privatization of Komercijala

Banka, but more remains to be done.

HIGHER VS. PRE-CRISIS PUBLIC INVESTMENT IN 2020-21 GOVERNMENT DEBT RESUMING DOWNWARD TREND IN 2022

Source: SORS, ministry of finance, UniCredit Research

0

2

4

6

8

10

12

14

16

Empl. G&S Interest Subsidies Soc. ass. Other curr Investment

Avg 17-19 2020E 2021FGovernment exp.% GDP

-9

-8

-7

-6

-5

-4

-3

-2

-1

0

1

2

0

10

20

30

40

50

60

70

80

2014 2015 2016 2017 2018 2019 2020E 2021F 2022F

Government debt Budget balance (RS)% GDP

<date>


January 2021


CEE Quarterly

Inflation likely to remain below target in 2021 No further policy rate cuts in our baseline; NBS to focus on liquidity provision Current account deficit to narrow slightly but remain large Negotiations with Kosovo continue The EU stepped up its commitment to the Western Balkans A new IMF program would be positive Early elections are scheduled for 2022

We expect inflation to remain below the 3% target in 2021 and 2022. After falling to 1.3% yoy

in December, inflation is likely to hover around 1.5% until April when it might rise to 2%, driven

by a base effect in oil prices and a gradual acceleration of core inflation in 2H21. In 2022,

inflation is likely to hover around 2.5%.

With the policy rate cut by 125bp in 2020, in our baseline we do not forecast further cuts (see

our note EEMEA Macro Flash - Serbia: NBS cuts policy rate). However, the NBS might resort

to reducing interest rates further if the growth outlook deteriorates more than expected. The

NBS will also continue to provide banks with cheap dinar liquidity via additional FX swaps and

repo securities purchase auctions in case of need, although at the moment the banking sector

appears to have sufficient liquidity.

The current account deficit will likely remain large, but we do not foresee financing risks. We

expect the current account deficit to narrow from 5.7% of GDP in 2020 to 5.5% in 2021 on the

back of a slightly narrower trade deficit and a recovery in remittances. We expect the current

account deficit to be financed by FDI, which we forecast at EUR 2.8bn or 5.8% of GDP,

compared to EUR 2.5bn in 2020 and above EUR 3bn in 2018 and 2019. The dinar might

experience some pressure in the event of EM risk-off sentiment, however, the NBS is likely to

intervene to preserve the stability of the currency.

Negotiations with Kosovo continued with the resumption of the EU-led dialogue in July after a

two-year interruption, with both high-level and technical meetings taking place in 2020. While

these are positive developments, the most difficult topics remain open. Negotiations will

continue in 2021.

The EU stepped up its commitment to the Western Balkans. It provided a COVID-19 support

package for the region worth EUR 3.3bn and announced an investment plan for the Western

Balkans, including EUR 9bn of grants plus a guarantee facility. In addition, it supported the

agreement among the Western Balkans to develop a common regional market based on EU

rules and standards, which would bring the region closer to EU markets. On the negative side,

the European Commission, in its enlargement report, highlighted Serbia’s limited progress on

the rule of law, which is central to the accession process, and no new chapters were opened.

An agreement on a new IMF program after the Policy Coordination Instrument (PCI) expires

in January 2021 is likely and would be positive. It would reinforce Serbia’s commitment to

reforms and macro-financial stability, which would be welcomed by international investors. In

addition, it could provide quick access to IMF funding if needed. We think it could take the

form of another PCI, therefore without financing, with a focus on structural reforms.

President Aleksandar Vučić stated that early elections are scheduled for April 2022, along with

presidential and local elections. Domestically, the main pre-election challenges will be to deal

with the COVID-19 pandemic and to restart a dialogue with the opposition parties after they

boycotted the elections in June 2020. On the external front, the main challenge remains to

make progress on normalizing relations with Kosovo.

LARGE CA DEFICT BUT NO FINANICNG RISK PRESSURE ON THE DINAR EASED

Source: NBS, SORS, ministry of finance, UniCredit Research

2

3

4

5

6

7

8

9

Dec-1

3

Apr-

14

Aug

-14

Dec-1

4

Apr-

15

Aug

-15

Dec-1

5

Apr-

16

Aug

-16

Dec-1

6

Apr-

17

Aug

-17

Dec-1

7

Apr-

18

Aug

-18

Dec-1

8

Apr-

19

Aug

-19

Dec-1

9

Apr-

20

Aug

-20

Dec-2

0

Apr-

21

Aug

-21

Dec-2

1

Current acocunt defict FDI Forecast Forecast

12M rolling sum (%, GDP)

-600

-400

-200

0

200

400

600

800


2015 2016 2017 2018 2019 2020

NBS interventions, EUR mn (+ means NBS buys FX reduce appreciation pressure)

http://unicredit-globalresearch.application.hypovereinsbank.de/Docs/emergingmarkets_docs_2020_178761.ashx?EXT=pdf

<date>


January 2021


CEE Quarterly

SERBGBs supported in 2021

The government funding plan envisages a RSD 300bn (EUR 2.6bn) issuance of SERBGBs. In

1Q21, Serbia plans to issue EUR 680mn of SERBGBs, 70% of which are to be issued in the

local currency (mainly the reopening of the 5Y, 10Y and 12Y bonds). The plan also envisages a

EUR 3bn Eurobond issuance, although this figure could be lower as EUR 750mn of the 2021

USD bond was already repaid in November 2020, financed by a EUR 1bn Eurobond issuance.

Interest rate cuts, lower financing needs in 2021 and less pressure on the currency could

support government bonds. SERBGB yields could also benefit from a rally in its EU neighbors,

whose borrowing costs could be anchored lower by cheap loans from the EU.

SERBGBS ISSUANCE PLAN FOR 1Q21 REAL YIELDS ON SERBGBS ATTRACTIVE

Source: NBS, ministry of finance, Public Debt Agency, SORS, UniCredit Research



EUR bn 2020E 2021F 2022F





Bonds 1.4 1.3 1.3

Bills 0.1 0.1 0.1

IFIs/others 0 0.2 0.5


Bonds 1.5 0.6 0

IFIs/others 0.2 1.0 1.6



Bonds 2.7 2.6 3.0

Bills 0.1 0 0.1

Others 0.2 0 0


Bonds 3.0 2.0 1.0


Fiscal reserves change (- =increase) 0.5 -0.7 0.1

EUR bn 2020E 2021F 2022F


C/A deficit 2.7 2.7 2.9


Government/Central Bank 2.1 1.9 1.9

Banks 0.7 0.6 0.4

Corporates 1.6 1.6 1.6


Government/Central Bank 0 0 0

Banks 1.4 0.8 0.8



FDI (net) 2.3 2.9 3.0




Banks 0.6 0.4 0.3



Change in FX reserves (- = increase) -0.6 -1.2 0.2

Memoranda:



Source: Bloomberg, NBS, ministry of finance, Public Debt Agency, SORS, UniCredit Research

0

50

100

150

200

250

2Y (RSD) 5Y (RSD) 10Y (RSD) 12Y (RSD) 12Y (EUR) 20Y (EUR)

EUR mn

0

1

2

3

4

5

62023 2024

2025 2026

2028 2032

Inflation (% yoy)

yield on government bonds, %

<date>


January 2021


CEE Quarterly

Turkey B2 negative/B+ stable/BB- negative*

Outlook

Turkey’s GDP might show expansion by 2.9% this year, as pandemic-related restrictions and negative credit impulses have

weighed on economic activity. GDP growth could accelerate to 4% in 2022. The CBRT might begin to cut its policy rate in early

2H21, once a disinflationary trend becomes evident. The central bank could lower its policy rate to 12% by the end of this year

and maintain this level in 2022.

Strategy

The TRY might be supported in real terms by the tight monetary policy in 1H21 and a gradual recovery in tourism revenues over

the summer. However, some acceleration in inflation could push real rates towards zero again in 2022, leaving the currency

more prone to depreciation risks.

Author: Gökçe Çelik, Senior CEE Economist (UniCredit Bank, London)

KEY DATES/EVENTS

■ 3 Feb, 3 Mar: inflation data

■ 21 Jan, 18 Feb, 18 Mar: monetary-policy decisions

■ 1 Mar: 4Q20 GDP

■ 22 Jan, 19 Feb: S&P and Fitch rating reviews

GDP GROWTH FORECAST

Source: Turkstat, UniCredit Research

INFLATION FORECAST

Source: Turkstat, CBRT, Bloomberg, UniCredit Research


2018 2019 2020E 2021F 2022F

GDP (EUR bn) 660.3 680.1 609.5 615.4 608.8

Population (mn) 82.0 83.2 84.2 85.2 86.2



GDP 3.0 0.9 1.2 2.9 4.0

Private consumption 0.5 1.6 3.0 3.8 4.1

Fixed investment -0.3 -12.4 7.3 3.7 4.1


Exports 9.0 4.9 -16.3 14.0 6.8

Imports -6.4 -5.3 9.7 5.2 5.8


Real wage, change (%) -0.4 2.7 -5.5 3.9 4.2



Budget balance -3.4 -5.3 -5.6 -5.4 -5.1

Primary balance -1.5 -3.0 -2.8 -2.3 -2.0

Public debt 30.2 32.6 40.0 40.7 41.4

External accounts

Current account balance (EUR bn) -18.4 6.2 -34.1 -18.7 -16.8

Current account balance/GDP (%) -2.8 0.9 -5.6 -3.0 -2.8

Extended basic balance/GDP (%) -1.6 1.7 -5.1 -2.3 -1.9

Net FDI (% of GDP) 1.2 0.8 0.6 0.7 0.9





CPI (pavg) 16.3 15.7 12.3 13.6 11.4

CPI (eop) 20.3 11.8 14.6 10.8 11.5




USD/TRY (eop) 5.29 5.95 7.44 7.90 8.84

EUR/TRY (eop) 6.07 6.67 9.08 10.11 11.67

USD/TRY (pavg) 4.84 5.68 7.03 7.55 8.38

EUR/TRY (pavg) 5.69 6.35 8.05 9.32 10.91

Source: Turkstat, CBRT, Turkey’s ministry of finance, Bloomberg, UniCredit Research

*Long-term foreign-currency credit ratings are provided by Moody’s, S&P and Fitch, respectively

-8.0

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

10.0

2018 2019 2020E 2021F 2022F


Fixed investment Net exports

Inventories GDPyoy (%)

-20.0

0.0

20.0

40.0

60.0

80.0

100.0

0.0

5.0

10.0

15.0

20.0

25.0

30.0

Jan-16 Jan-17 Jan-18 Jan-19 Jan-20 Jan-21 Jan-22

Annual inflation Inflation target TRY basket (rs)

Forecast

<date>


January 2021


CEE Quarterly

A better policy mix

We expect Turkey’s economy to grow by 2.9% this year and by 4% in 2022 GDP might have already started to decelerate at the end of last year, due to tightening restrictions… …although any slowdown will likely become more evident in 1Q21 We expect recovery to resume from 2Q21 onward… …and it will be a gradual one. The budget deficit could increase further this year… …due to less-pronounced revenue growth and higher interest payments Layoff ban and furlough scheme will likely continue in 1H21

Turkey was the only CEE economy to avoid GDP contraction in 2020. However, such

relatively strong performance likely occurred at the cost of milder growth in 2021, as stimulus

via excessive lending growth triggered monetary tightening from August onward. We expect

GDP to expand by 2.9% in 2021, following 1.2% growth in 2020 – as economic activity

weakens at the start the year due to tighter lending conditions and pandemic-related

restrictions. GDP growth could accelerate to 4% in 2022.

Sequential slowdown might have already started at the end of 2020. While leading indicators

hinted at a resilient start to 4Q20, the first signs of momentum loss were evident in November

and December’s confidence indices, PMI orders although industrial production remained

rather strong. The tightening of pandemic restrictions weighted on household consumption in

December. Consequently, GDP might have recorded a slight quarterly decline in 4Q20.

The slowdown will likely become more pronounced in 1Q21 as restrictions might remain in

place in both Turkey and its export markets. Moreover, possible declines in employment,

along with the lagging impact of a negative credit impulse could weaken domestic demand

further. We expect quarterly growth to resume from 2Q21 onward if the bulk of pandemic-

related restrictions are lifted and if the central bank starts to lower interest rates in early 2H21.

However, the recovery will likely be gradual, as the government lacks the room to maneuver

in terms of policy to deliver another round of sizable stimulus without risking currency

depreciation. Monetary and financial conditions could ease once inflation peaks in late 1H21,

leading to a positive credit impulse in 2H21. In 2020, the budget deficit was probably narrower

than initially expected, leaving room for a positive fiscal impulse of around 0.5pp in 2021,

following a similar figure in 2020, according to our projections.

The budget deficit could widen in 2021. While the bulk of the stimulus provided in response to

COVID-19 has come from bank lending, direct fiscal measures included mostly deferred tax

and premium payments (1.2% of GDP) and furlough schemes (which were paid by the extra-

budgetary unemployment fund). Deferred tax and premium payments might not have been

paid to their full extent, as lockdown measures at the end of 2020 affected the turnover of

retail businesses. However, overall tax revenues grew by 23% by November due to a rebound

in domestic demand. Budget deficit could rise from 4.0% of GDP (IMF-defined 5.6%) in 2020

to 4.6% of GDP (IMF-defined: 5.4%) in 2021 due to slower growth in tax revenues and higher

interest expenses, before narrowing to 4.3% of GDP in 2022.

We expect measures targeting the labor market to be extended until the end of 2Q21. Under

current legislation, the layoff ban and furlough scheme will run until mid-March, while the

short-term work scheme will expire in February. The amount paid under furlough and short-

term work schemes since April has reached TRY 29.8bn (0.6% of GDP).

CREDIT CARD SPENDING HAS SLOWED FOLLOWING RESTRICTIONS

STRONG DOMESTIC DEMAND HAS BOOSTED TAX REVENUES

Source: CBRT, TurkStat, Unemployment Insurance Fund, UniCredit Research

-30

-20

-10

0

10

20

30

40

Jan-20 Mar-20 May-20 Jul-20 Sep-20 Nov-20

Credit card spending4W MA, yoy (%)

-60

-40

-20

0

20

40

60

80

Jan-19 Apr-19 Jul-19 Oct-19 Jan-20 Apr-20 Jul-20 Oct-20

Revenues (%, yoy) Primary exp. (%, yoy) Primary balance (TRY bn)

<date>


January 2021


CEE Quarterly

Unemployment rate will likely rise in 2021… …although the layoff ban and additional declines in the labor force could limit the pace of this Weak external demand might push the current-account deficit higher in 1Q21… …but a gradual improvement should follow Inflation is projected to peak in April before decelerating below 11% by the end of the year The CBRT might start reducing rates in 3Q21… A reassessment period for US-Turkey ties

The unemployment rate could remain on an upward trend until late 2021. Data pertaining to

labor force and employment have rebounded only partially since May, recovering only 50-60% of

the large drops recorded in the first four months of 2020. This recovery was likely interrupted

by restrictions at the end of last year as the labor market data for October showed that job

creation came to a halt. The layoff ban will likely limit the employment losses in 1H21.

Additional declines in the labor force could further slow a potential increase in the

unemployment rate. However, we expect relatively slow growth to push Turkey’s

unemployment rate from 13.3% in 2020 to 13.6% in 2021, before its projected deceleration to

13.1% in 2022. If the labor force remained at its end-2019 level, the unemployment rate could

end up at 17.6% in 2020 and 16.4% in 2021.

External demand for Turkey’s exports might remain weak in 1Q21 due pandemic restrictions,

pushing the C/A deficit higher at the beginning of 2021. However, we expect to see a recovery in

both merchandise and service exports during 2021 and in 2022. Nevertheless, service exports

might not return to their pre-pandemic level before 2023. Import growth might remain modest

this year before accelerating in 2022 due to stronger domestic demand. Consequently, we

forecast that the C/A deficit will ease to 3% of GDP in 2021 and to 2.8% of GDP in 2022.

Base effects and the delayed impact of exchange-rate pass through might push inflation to a

peak of around 15.5% in April. We expect weak domestic demand in early 2021 to help curb a

part of the upward pressures in both headline and core inflation from cost push factors while

base effects are expected to keep food inflation elevated until late 2021. Annual inflation

could end this year at 10.8%, before accelerating to 11.5% in 2022, along with a stronger

demand outlook.

The central bank might reverse bulk of last year’s rate hikes, starting from early 3Q21,

following the projected downward trend in inflation. The CBRT might lower its policy rate by

5pp, to 12% by the end of this year and keep it unchanged next year.

On the foreign-policy front, the next few months might be a period of reassessment of

US-Turkey relations with a new administration in Washington. Relations have remained

strained due to disputes in several areas including Turkey’s purchase of a Russian S-400

missile system, which has triggered sanctions (under the Countering America's Adversaries

through Sanctions Act) for Turkey’s defense procurement agency. The National Defense

Authorization Act, which was recently signed into law, requires Turkey to cease ownership of

S-400 missile systems for the lifting of these sanctions. While this does not seem politically

feasible for Turkey, Turkish authorities might opt to take a more reconciliatory stance to avoid

further conflict with the US as they start to engage with the Biden administration.

EMPLOYMENT SUPPORT MEASURES COULD BE EXTENDED UNTIL 2H21

CURRENT-ACCOUNT DEFICIT TO NARROW

Source: ministry of finance, CBRT, UniCredit Research

0

1

2

3

4

Apr-20 May-20 Jun-20 Jul-20 Aug-20 Sep-20 Oct-20 Nov-20

Furlough* Short-term workWorkers (mn)

* May figure covers April and May.

-8

-6

-4

-2

0

2

4

6

8

2018 2019 2020 2021 2022

GDP (%)Gold balance Energy balance

Core balance C/A balance

<date>


January 2021


CEE Quarterly

Treasury might tap the Eurobond market early in the year

The government has a rather heavy domestic-debt-repayment calendar this year Turkey’s treasury might consider borrowing more than it has projected from international markets to support official FX reserves

According to its 2021 financing program, the Turkish Treasury plans to borrow TRY 619bn

(10.8% of GDP) compared to total debt repayments of TRY 547bn (9.5% of GDP) this year.

Domestic debt service for 2021 stands at TRY 447bn (7.8% of GDP). Turkey’s treasury is

penciling in TRY 541bn (9.8% of GDP) of borrowing from domestic markets. Meanwhile,

USD 10bn of borrowing is projected, compared to USD 12.6bn of external debt repayments.

Since we forecast a higher budget deficit (4.6% of GDP) than the government (4.3% of GDP)

for this year, we think borrowing could be slightly higher. In particular, borrowing from

international markets could exceed the planned amount, also to replenish the CBRT’s FX

reserves, should market conditions allow this. In particular, the treasury might be in the

market in the following weeks, prior to its sizable redemption in March.

The TRY benefitted from a return to orthodox monetary policy in 4Q20. Since the country

remains dependent on portfolio flows, (geo)political news and changes in investor sentiment

are likely to be priced into the exchange rate, at least temporarily. Tight monetary conditions

could reduce the scope for depreciation in 1H21, while USD-TRY could move gradually higher

towards year-end, when the CBRT’s rate cuts might start to bring real rates down.

TREASURY’S DOMESTIC DEBT REPAYMENTS TREASURY’S EXTERNAL DEBT REPAYMENTS

Source: CBRT, Bloomberg, UniCredit Research

GOVERNMENT’S GROSS FINANCING REQUIREMENTS


EUR bn 2020E 2021F 2022F




Domestic 25.0 34.9 25.6

Bonds 20.0 34.7 25.6

Bills 4.9 0.2 0

Loans 0 0 0


Bonds 4.6 5.0 4.9

Loans 1.0 1.1 1.1

Financing 64.7 74.4 62.6


Bonds 49.5 58.7 47.2

Bills 3.0 0 0

Loans 0 0 0


Bonds 7.5 9.7 9.3

Loans 0.8 0.6 0.8

Privatization/other 9.8 5.3 4.9

Fiscal reserves change (- =increase) -5.9 0 0.5

EUR bn 2020E 2021F 2022F


C/A deficit 34.1 18.7 16.8

Amortization of medium and long-term debt 47.8 36.6 30.3


Banks 26.3 21.1 13.3



Financing 190.2 167.3 160.9

FDI (net) 3.6 4.5 5.4

Portfolio equity, net -3.8 2.8 2.1



Banks 21.1 19.6 14.1



Other -0.9 0 0

Change in FX reserves (- = increase) 33.3 -3.5 -2.4

Memoranda:

Nonresident purchases of LC gov’t bonds -4.4 4.6 2.3


Source: CBRT, Turkey’s ministry of finance, UniCredit Research

0

10

20

30

40

50


TRY bnPrincipal Interest

0

1

2

3

4


USD bn Principal Interest

<date>


January 2021


CEE Quarterly

Acronyms and abbreviations used in the CEE Quarterly

■ BNB – Bulgarian National Bank

■ C/A – current account

■ CBR – Central Bank of Russia

■ CBRT –Central Bank of the Republic of Turkey

■ CE – Central Europe

■ CEE – Central and Eastern Europe

■ CNB – Czech National Bank

■ DM – developed markets

■ EA – euro area

■ EC – European Commission

■ ECB – European Central Bank

■ EDP – Excessive Deficit Procedure of the European Commission

■ EM – emerging markets

■ EMU – European Monetary Union

■ EU – European Union

■ FCL – Flexible Credit Line (from the IMF)

■ FDI – foreign direct investment

■ IFI – international financial institutions

■ IMF – International Monetary Fund

■ MoF – Ministry of finance

■ NBH – National Bank of Hungary

■ NBP – National Bank of Poland

■ NBR – National Bank of Romania

■ NBS – National Bank of Serbia

■ NBU – National Bank of Ukraine

■ PLL – Precautionary and Liquidity Line (from the IMF)

■ PM – prime minister

■ PPP – public – private partnership

■ qoq – quarter on quarter

■ sa – seasonally adjusted

■ SBA – Stand-by Arrangement (with the IMF)

■ SOE – state-owned enterprise

■ WB – World Bank

■ yoy – year on year

■ ytd – year to date

<date>

UniCredit Research page 66

January 2021


CEE Quarterly

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<date>


January 2021


CEE Quarterly

Banking network

UniCredit Group CEE banking network – Headquarters

Azerbaijan

Yapi Kredi Azerbaijan Yasamal District, Jafar Jabbarlı Str., 32/12, AZ 1065, Baku/Azerbaijan Phone +994 12 497 77 95 Emai: [email protected] www.yapikredi.com.az

Bosnia and Herzegovina

UniCredit Bank d.d. Kardinala Stepinca - bb, BH-88000 Mostar Phone: +387 33 222 999 Emai: [email protected] www.unicreditbank.ba

UniCredit Bank Banja Luka Marije Bursac 7 BA-78000 Banja Luka Phone: +387 80 051 051 Emai: [email protected] www.unicreditbank-bl.ba

Bulgaria

UniCredit Bulbank Sveta Nedelya Sq. 7 BG-1000 Sofia Phone: +359 70 01 84 84 www.unicreditbulbank.bg

Croatia

Zagrebačka banka d.d. Trg bana Josipa Jelačića 10 HR-10000 Zagreb Phone: +385 1 6104 169 Emai: [email protected] www.zaba.hr

Czech Republic

UniCredit Bank Želetavská 1525/1 CZ-140 94 - Prague 4 Phone: +420 955 911 111 Emai: [email protected] www.unicreditbank.cz

Hungary

UniCredit Bank Szabadság square 5-6 H-1054 Budapest, Phone: +36 1 301 12 71 Emai: [email protected] www.unicreditbank.hu

Romania

UniCredit Bank 1F, Blvd. Expozitiei RO-012101 Bucharest 1 Phone: +40 21 200 2200 Emai: [email protected] www.unicredit.ro

Russia

UniCredit Bank Prechistenskaya nab. 9 RF-119034 Moscow Phone: +7 495 258 7258 Emai: [email protected] www.unicreditbank.ru

Serbia

UniCredit Bank Rajiceva 27-29 RS-11000 Belgrade Phone: +381 11 3204 500 Emai: [email protected] www.unicreditbank.rs

Slovakia

UniCredit Bank Sǎncova 1/A, SK-813 33 Bratislava Phone: +421 2 4950 1111 www.unicreditbank.sk

Slovenia

UniCredit Bank Šmartinska Cesta 140 SI-1000 Ljubljana Phone: +386 1 5876 600 Emai: [email protected] www.unicreditbank.si

Turkey

Yapı Kredi Yapı Kredi Plaza D Blok, Levent TR-34330 Istanbul Phone: +90 212 339 70 00 www.yapikredi.com.tr


http://www.zaba.hr/

<date>


January 2021


CEE Quarterly

Contacts for entering into a business relationship with UniCredit’s corporate banking network (UniCredit International Centers)

UniCredit International Center CEE

Roberto Poliak Phone: +43 50505 51030 Email: [email protected] Email: [email protected]

UniCredit International Center Austria

Martin Zojer Phone: +43 50505 42748 Email: martin.zojer@ unicreditgroup.at

UniCredit International Center Germany

Holger Frank Phone: +49 89 378 20141 Email: [email protected]

UniCredit International Center Italy Alessandro Paoli Phone: +39 02 8681 6748 Email: [email protected]

Bosnia and Herzegovina

UniCredit Bank d.d. Berna Hadžimujagić Phone: +387 33 491 990 Email: [email protected]

UniCredit Bank a.d. Banja Luka Boris Dragić Phone: +387 51 243 320 Email: [email protected]

Bulgaria

Emiliano Steinfl Phone: +359 2 930 97 19 Email: [email protected]

Croatia

Roberta Cupic Phone: +385 1 6305 029 Email: [email protected]

Czech Republic

Guido Filippi Phone: +420 955961524 Email: [email protected]

Hungary

Raluca Popescu-Goglea Phone: +36 1301 1207 Email: [email protected]

Romania

Andrea D’Alessandro Phone: +4 021 200 1616 Email: [email protected]

Russia

Fabrizio Rollo Phone: +7 495 723 7126 Email: [email protected]

Serbia

Luciano Bellan Phone: +381 11 3028 645 Email: [email protected]

Slovakia

Guido Filippi Phone: +420 725 991 407 Email: [email protected]

Slovenia

Natasa Markov Phone: +386 1 5876 874 Email: [email protected]

Turkey

Fabio Bini Phone: +90 212 339 7988 Email: [email protected]


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January 2021


CEE Quarterly

UniCredit Research* CEE Macro & Strategy Research

Erik F. Nielsen Group Chief Economist Global Head of CIB Research +44 207 826-1765 [email protected]

Dr. Ingo Heimig Head of Research Operations & Regulatory Controls +49 89 378-13952 [email protected]

Head of Macro Research Heads of Strategy Research

Marco Valli Head of Macro Research Chief European Economist +39 02 8862-0537 [email protected]

Dr. Luca Cazzulani Co-Head of Strategy Research FI Strategist +39 02 8862-0640 [email protected]

Elia Lattuga Co-Head of Strategy Research Cross Asset Strategist +44 207 826-1642 [email protected]

EEMEA Economics Research

Dan Bucşa Chief CEE Economist +44 207 826-7954 [email protected]

Gökçe Çelik Senior CEE Economist +44 207 826-6077 [email protected]

Mauro Giorgio Marrano Senior CEE Economist +43 50505-82712 [email protected]

Artem Arkhipov Head, Macroeconomic Analysis and Research, Russia +7 495 258-7258 [email protected]

Hrvoje Dolenec Chief Economist, Croatia +385 1 6006-678 [email protected]

Dr. Ágnes Halász Chief Economist, Head, Economics and Strategic Analysis, Hungary +36 1 301-1907 [email protected]

Ľubomír Koršňák Chief Economist, Slovakia +421 2 4950 2427 [email protected]

Anca Maria Negrescu Senior Economist, Romania +40 21 200-1377 [email protected]

Kristofor Pavlov Chief Economist, Bulgaria +359 2 923-2192 [email protected]

Pavel Sobíšek Chief Economist, Czech Republic +420 955 960-716 [email protected]

Cross Asset Strategy Research

Elia Lattuga Co-Head of Strategy Research Cross Asset Strategist +44 207 826-1642 [email protected]

UniCredit Research, Corporate & Investment Banking, UniCredit Bank AG, Am Eisbach 4, D-80538 Munich, [email protected] Bloomberg: UCCR, Internet: www.unicreditresearch.eu

CEE 20/1

*UniCredit Research is the joint research department of UniCredit Bank AG (UniCredit Bank, Munich or Frankfurt), UniCredit Bank AG London Branch (UniCredit Bank, London), UniCredit Bank AG Milan Branch (UniCredit Bank, Milan), UniCredit Bank AG Vienna Branch (UniCredit Bank, Vienna), UniCredit Bank Austria AG (Bank Austria), UniCredit Bulbank, Zagrebačka banka d.d., UniCredit Bank Czech Republic and Slovakia, ZAO UniCredit Bank Russia (UniCredit Russia), UniCredit Bank Romania.

https://www.unicreditresearch.eu/

A path to recovery - UniCredit

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