By Peter Apps
LONDON, Jan 30 (Reuters) - The combined weight of plummeting
economies and rising political discontent has banished the
one-way convergence bet in emerging Europe and investors are now
treating the region more like a traditional emerging market.
Latvia, Lithuania and Bulgaria have all seen street violence
in the last month reminescent of the scenes that brought down
Iceland Prime Minister Geir Haarde at the beginning of the week,
upping interest in political risk across the region.
These once stable and high-flying economies now likely face
recession in the first half of this year, slumping asset prices
and potential negative feedback cycles that could prolong a
crisis that was unthinkable six months ago.
All that has refocussed attention on the solidity of
governments and willingness to make painful fiscal choices, as
rising unemployment ups the stakes for populations whose race to
catch up with the West is about to hit an enormous speedbump.
"There's no question that Eastern Europe is suddenly much
more vulnerable both economically and politically then several
months ago, even relatively stable countries like Poland," said
Joanna Gorska, deputy head of the Eurasia desk at risk
consultancy Exclusive Analysis.
Whereas Iceland has long been much wealthier, the former
communist countries of Eastern Europe had also seen several
years of surging incomes and standards of living before the
turmoil begun by Lehman Brothers' collapse last September.
Not even the most exposed -- Ukraine is top of the list --
are likely to suffer a similar financial implosion to Iceland.
But the worry is that the first recessions to hit the region
in a decade may spark political upheaval, a swing to the left,
and the loosening of fiscal screws.
The Czech Republic on Friday underlined the risks to public
finances by almost doubling their forecast for the 2009 public
sector shortfall to 3 percent of GDP.
For a factbox on the region's governments see []
TRIGGER FACTOR
The last decade has seen investors buy and hold assets in
these countries, safe in the conviction that the value of
property, bonds and companies would converge with Western
Europe, and that any losses would be only blips on the road.
But Commerzbank head of emerging research Michael Ganske
said the recent rise in risk is prompting banks to reverse the
shift of Central Europe's biggest economies from emerging
markets desks to mainstream sovereign teams.
"It means that these are being seen as conventional emerging
markets again," he said. "They are seen as places where
investors have specific event and political risks."
Greater government intervention and growing popular
discontent have made politics more closely watched than in the
boom years stretching back to the Asian financial crisis.
Ukraine's ruling coalition was in trouble well before
Lehman's collapse, and the rush to hoard cash at the expense of
emerging markets late last year sent its currency and economy
into freefall.
But the wider market impact of a further crisis there would
pale in comparison to that of trouble in one of the more
mainstream investment destinations.
Royal Bank of Canada strategist Nigel Rendell believes
regional currencies have further to fall and debt insurance
premiums further to rise.
Czech <EURCZK=>, Polish <EURPLN=>, Hungarian <EURHUF=> and
Romanian <EURRON=> currencies have fallen between 3.8 and 11.6
percent since the beginning of January, adding to double digit
retreats in the last few months of last year.
Some analysts say currencies could fall 10-15 percent
further across the region within months.
Latvia's Lat has performed relatively well this year after
an International Monetary Fund deal, but in the longer term some
analysts say its currency peg and band may be taxed to
destruction as the crisis bites.
ICELAND'S EXAMPLE?
Latvia's president has said expanding his centre-right
coalition is the only way to regain public confidence after
riots on January 13, which came after the launch of an austerity
plan agreed under its near $10 billion IMF loan deal.
But the first opposition party approached rejected the offer
and said the coalition had led the state to bankruptcy,
demanding a new prime minister. []
The shaky position of the Czech Republic's minority
coalition government has raised concerns whether it can survive
until an election scheduled for mid-2010, although most
observers do not expect a cabinet collapse before June when the
country completes six-months in the European presidency.
In Hungary, the Conservative opposition is expected to
heavily defeat the current government in polls next year.
[] while Bulgaria's sleaze-tainted coalition
government is expected to be ejected at an election later this
year, and policy under a new government clouded by doubt.
Romania's elections last year led to a large but conflicted
government that has failed to deliver the fiscal restraint
wanted by markets ahead of presidential elections late in 2009.
All that is still a long way from Iceland, where Haarde's
fall itself has had a minimal market impact -- largely because
the volcanic north Atlantic island has almost no markets left.
The crown currency <EURISK=D3> effectively ceased trading
internationally after the crash last year.
"Investors are looking at Iceland not so much for the market
impact as for the implications elsewhere," said Rendell.
"Both the risks of governments collapsing and sudden moves
to the left are very much there in other countries as well."
(Editing by Patrick Graham and Mike Winfrey)
