ECB: non euro EU states still face familiar risks

                                
 PRAGUE, Dec 9 (Reuters) - Economic and financial conditions
have improved in European Union states outside of the euro zone,
but the vulnerabilities seen at the height of the global crisis
broadly persist, the European Central Bank said on Thursday.
In its biannual Financial Stability Review, the ECB named a
high level of foreign currency loans, a deterioration in credit
quality and potential investor uncertainty over policy as risks
that could undermine recovery.
                                
 It did not name specific states, but its comments appeared
focussed on the EU's emerging east, where Hungary, Romania and
Latvia turned to Brussels and the International Monetary Fund
for bailouts during the crisis and other countries suffered
painful economic contractions.
                                
 "Strains could reappear quickly if investor risk aversion
were to rise as a result of uncertainties about economic
policies or political tensions in some countries (particularly
those with IMF/EU financial assistance programmes)," the ECB
said.
                                
 "In addition, risk aversion towards the countries could also
increase as a result of spillovers from tensions in other EU
countries or a reassessment of risk in general." 
Hungary, in particular, has faced market turmoil in recent
weeks over the unorthodox policy mix of Prime Minister Viktor
Orban's seven-month-old right-of-centre government, aimed at
raising state revenues and avoiding budget cuts.
                                
 Romania, too, has struggled to build confidence among
investors during a string of no-confidence votes against its
fragile government, which is trying to push through unpopular
austerity measures prescribed by its IMF and EU aid deal.
                                
 The ECB said banks exposed to non-euro area EU states also
faced deteriorating loan quality because of high unemployment.
                                
 Non-performing loans are expected to peak in low double
digits in many emerging EU states, but one of the biggest
lenders in central Europe, Italy's UniCredit <CRDI.MI>, said
last month it expects the deterioration to end by early 2011.
                                
 The ECB said there had been a virtual halt in foreign
currency lending, a pre-crisis favourite that saw borrowers in
Hungary, Romania and Poland take loans in euros or Swiss francs
in the hope their domestic currencies would strengthen.
                                
 But it said there was still a "substantial currency
mismatch" on private sector balance sheets. 
                                
 Economists say that is a main risk for Hungary, where some
55 percent of all mortgages are denominated in francs, and the
forint has lost 28 percent against the Swiss currency since
August, 2008, causing a spike in borrowers' monthly payments.
                                
 "There is an ongoing concern that potential currency
depreciations could significantly add to the debt burdens of
households or companies that are exposed to this mismatch, in
particular in view of some recent volatility in exchange rates
in a number of countries," the ECB said in the report.
  (Reporting by Michael Winfrey; editing by Patrick Graham)