Daily Management Review

Germany's Economic Problems Cloud Chances Of Central Europe's Recovery


Germany's Economic Problems Cloud Chances Of Central Europe's Recovery
The next major difficulty for the export-oriented nations of central Europe Germany, still licking their wounds from some of the greatest inflation rises in history following the COVID-19 pandemic, is the sick status of the economy.
Following the fall of communism, the region benefited greatly for many years from close commercial relations with Germany and its once-dominant car sector. However, those connections run the risk of hurting Slovakia, Hungary, and the Czech Republic's economy.
In an attempt to lessen the vulnerability of their big western neighbor—where another year of near-recession is looming—some local businesses that depend on their connections with Germany are already attempting to penetrate further into other foreign markets and diversify into sectors like defence.
With the crisis in Ukraine, the strife in the Middle East, and the rise in protectionism, these efforts are made, but they come at a moment of significant geopolitical uncertainty. All of these elements may hinder the region's companies' efforts, even with the drive into the defence industry.
"Economic disruption in the region's most important trade partner, and persistent weakness in the auto sector, pose additional risks of economic setback to the CEE region," said Dawn Holland, Director, Economic Research at Moody's Analytics.
The increase in inflation in Central Europe, which was spearheaded by Hungary's shocking 25% levels last year, has forced central banks to hike borrowing costs to their highest levels in 20 years. As a result, Czechs have seen the greatest decline in real earnings over the last eight quarters.
According to Germany's Bundesbank, German businesses in central Europe generated an annual revenue of roughly 250 billion euros ($270 billion) in 2021, directly employing about a million people and supporting many more through suppliers.
Slovakia sends a fifth of its exports to Germany, while the Czech Republic and Hungary rely on Germany for a third and a quarter of their exports, respectively, according to a count by S&P Global.
Poland's stronger and more diverse internal economy, which depends less on the production of cars for its exports, makes it appear less vulnerable.
According to the companies Reuters spoke with, the best case scenario for most of them would be turnover stagnation this year, though some would not completely rule out a decrease in revenue and potential job losses.
Hungary's DGA Gepgyarto es Automatizalasi Kft, which produces steel structures, welded components, and custom-made machinery, had been planned a 50% capacity expansion over three years, from 2023 to 2025, to match the predicted surge in demand. The company did this by taking client input into consideration.
According to Tamas Tornai, Executive Director of the holding firm in charge of DGA, "this (higher) demand had evaporated," Reuters was informed. Nevertheless, DGA is moving forward with its $6.95 million, or 2.5 billion forint, expansion to support the expanding defence sector.
In addition to experiencing poor sales in the American and European markets, Germany's auto industry is facing other challenges, such as rising energy costs and the global shift to e-mobility, which is compelling a reconsideration of internal combustion engine technology.
Hungary has taken the lead in central Europe in luring Chinese investments in battery and electric vehicle manufacturing, establishing itself as a hub for trade between Eastern and Western investors.
"There is a very strong decline in car sector demand, caused by inflation, interest rates and economic uncertainty, which nearly wiped out private buyers from the market," said Tamas Mogyorosi, Business Development Manager at Alap Group.
He said that by increasing orders from Asian clients, the company—which offers quality management and other services to clients in the automotive, aerospace, and electronics industries—tried to offset a downturn in western European sectors.
The downturn in Germany, according to Otto Danek, vice-chairman of the Czech Exporters' Association, has caused a dramatic cooling in the industry since the second half of 2023.
"A relatively small drop in demand from this territory has a significant impact on the entire export segment," said Danek, who owns Atas Elektromotory Nachod, a company making small electric motors.
"We are looking for new markets, more so in Europe ... but such a shortfall cannot be replaced in half a year."
German-based Agrikon KAM, a manufacturer of agricultural machinery components, anticipates a 10% decline in revenue in 2024, which might result in a 5%–10% reduction in staff by the midpoint of the year. It claims the loss in Europe won't be entirely compensated by a potential increase in sales to the United States.
According to rating agencies, the downturn may make it more difficult to control budget deficits, which S&P Global predicts will remain "exceptionally wide" for the area this year.
Karen Vartapetov, Director, Lead Analyst for CEE & CIS Sovereign Ratings at S&P Global, stated, "One of the top risks we see for CEE is the more protracted weakness in Germany."
"It could weigh on medium-term growth in CEE and further undermine what already appear to be challenging fiscal consolidation plans."