Czech Republic
The foreign trade surplus rose in April
Hungary
Forint struggled amid concerns about the Latvian currency
Poland
Zloty tumbles on Latvian fears
The week ahead
Beside Latvia’s fight for its currency board Czech and Hungary’s inflation might grab some attention
Overview
Latvia might spread contagion to Central Europe
Central European markets, unlike the other emerging markets, were not allowed to fully rejoice at another decrease in risk aversion on global markets last week. The reason for this was the speculations about the sustainability of the currency board (the fixed exchange rate system) in Latvia. These speculations spread a negative sentiment from the Baltic region to Eastern Europe, and this, along with the continuing euphoria in equity markets, even led to a moderate depreciation of Central European currencies. This happened in spite of Central Europe having only little in common with Latvia, with its trading relations to Latvia being absolutely negligible (perhaps to some extent with the exception of Poland).
Latvia itself is an unfortunate example of a country which, in this crisis, shares the disadvantages of a fixed exchange rate pegged to the euro on the one hand, while being unable to use the eased liquidity conditions enjoyed by countries within the euro area on the other hand. Hence this extremely open small economy has been severely affected by the external shock, and can only protect itself by a painfully tightening of its fiscal policy in combination with a nominal wage reduction. Of course, both measures are very unpopular, and therefore the markets are betting on Latvia not being able to stand this pressure without further aid from abroad (IMF, EU).
If a break happens, it is clear that the shocks would make themselves felt in Central Europe. The breakdown of the Latvian currency board would probably affect the Hungarian markets the most, which, in spite of better fundamentals, still suffer from the stigma of the forced financial aid from the IMF and the European Union.
