Southeastern Europes Mini Golden Age

After years of reform and a series of elections, these countries are stable and starting to see a pickup in economic activity

These are worrying times for western Europe, as the UK triggers Brexit and France nears presidential elections that Marine Le Pen’s National Front might win. Things are also proving unsettling in central Europe, where two former darlings of the international investment community—Poland and Hungary—are becoming increasingly authoritarian and populist.

By contrast, South Eastern Europe (SEE) has entered something of a mini-golden age despite the huge lingering problems still facing Greece and continuing obstacles to sustained growth across the region, which include antiquated infrastructure, poor commercial transparency and inadequate commercial ties between the countries.

“These are interesting and positive times and investors are looking much more closely at the opportunities in the main countries—which include three existing European Union (EU) members, Croatia, Romania and Bulgaria, and one prospective one, Serbia—because of a big improvement in the political and economic picture,” says Alex Bebov, founder of the Balkan Advisory Company (BAC), an investment bank that operates across the SEE region. He sees tremendous potential in M&A, privatization and other financial opportunities. “Romania, the largest economy, is the star performer but Bulgaria and Serbia are looking much better,” he says. “Even in Croatia and some of the smaller countries, deal volume is looking more and more encouraging.”

On the political front, following a series of elections, stability now appears to be the order of the day. The demonstrations that followed Romania’s elections have subsided, with the new Socialist government forced to abandon legislation that would have eased the anti-corruption rules that have helped clean up one of the region’s murkiest business environments. Now treading carefully, the government has promised to mitigate internal regional inequality—Romania has three regions with GDP per capita well under half the EU average, while the Bucharest region boasts GDP per capita almost 140% of the EU average—and maintain growth, a key issue if Bucharest is to keep its budget deficit below 3% of GDP.

In Bulgaria’s snap elections, the third vote in four years, the center-right, pro-EU European Development Party (GERB) of Boyko Borisov came out ahead of its left-wing rival, the pro-Moscow Socialist Party. The GERB secured around 33% of the vote against 27% for the Socialists. Observers expect Borisov most likely to pull together a three-party governing coalition—including the United Patriots Coalition and Volya (Will)—to pursue a generally reformist, pro-EU agenda. This would make Borisov prime minister for the third time. He governed from 2009-11 and again since 2014.

Meanwhile in Serbia, Aleksandar Vukic overwhelmingly won the presidential elections held on April 2 in the first round, consolidating his Serbian Progressive Party’s grip on power but stressing economic reform and preparing for Serbia’s accession to the EU, all against a backdrop of broadly based economic growth including rising exports and much-needed investment in public infrastructure.

In Croatia, last September’s parliamentary elections led to a right-of-center coalition composed of the Croatian Democratic Union (HDZ) and Most (Bridge); prime minister Andrej Plenkovic has said he will prioritize economic reform, reduce indebtedness (Croatia’s public debt is around 85% of GDP, and corporate debt is also large) and improve a red-tape bound business environment that has constrained growth for years.

Even tiny Macedonia, with a population of just two million, is seeing signs of a pick up following several months of political instability that held back already fragile foreign direct investment. “For 2017, GDP growth is expected to bounce back to 3.2%,” says Branka Pavlovic, head of the management board at Societe Generale Ohridska Banka. “In the medium term, further growth is expected due to planned construction activities related to infrastructure and increasing FDI triggered by a continued improvement in the labor market and supported by the strengthening of credit growth.”

All governments are fortunate in that they are building on GDP growth that should average around 3% this year.  Romania’s economy—boosted by strong domestic demand and fiscal stimulus—will be the growth leader, having grown 4.9% in 2016 with 4% expected in 2017, the fastest rate in the EU. Bulgaria should see GDP rising 3.3% in 2017 and 2.8% in 2018, and former laggard Croatia, 3.5% in 2017 and 3.3% in 2018. Serbia meanwhile is expected to see GDP rise by around 3% in 2017 following last year’s 2.8%, with FDI now accounting for 5% of GDP.

Nonperforming loans (NPLs), a problem for the banks in both these countries, are falling—although they are still around 16% and corporate NPLs are a major concern, accounting for some 30% of total loans in Croatia.

Bebov, BAC: Outlook for M&A, privatization and other financial opportunities have never looked better.

“The economic crisis and then the euro crisis created a lot of excess capacity, which is now feeding growth,” says William Jackson, Emerging Europe analyst at Capital Economics. The really good news is that in some economies—notably Serbia and Croatia—recovery has been broad-based and supported by a pickup in the eurozone, boosting its sustainability.

“Growth in Croatia is being fueled by a strong tourism sector, manufacturing and investment … whilst in Serbia consumption growth has been recovering along with FDI, which has been buoyant in manufacturing, agribusiness and services, especially in the north,” says Peter Tabak, Serbia and Croatia economist at the EBRD. Bulgaria and Romania have been even more dynamic. Health has returned to Bulgaria’s troubled banks after the run two years ago on First Investment Bank and Corporate Commercial Bank, the country’s third- and fourth-largest banks, respectively, which prompted a €1.7 billion ($1.8 billion) injection of emergency funds from the central bank.

“Although the sector still has a certain fragility, the asset review has cleared up a lot of issues and restored trust,” says Roger Kelly, the EBRD’s economist for Bulgaria and Romania, “although high levels of corporate indebtedness are impacting the banks’ appetite for risk.” He says Romania has seen a pickup in lending following a major decline in bank NPLs from 22% five years ago to around 10% at present.  Unsurprisingly, all this has led to a major pickup in business activity, with privatization—all but completed in CEE—continuing across the region.

Tabak, EBRD: There’s lot of potential here—in trade and FDI and thus growth—that simply isn’t being realized.

At the end of March, Serbia announced plans to sell MSK Kikinda, a chemical company, HIP Petrochemija and HIP Azotara Pancevo, a large chemical fertilizer producer. In the transport sector, Belgrade is looking to sell the concession to run the Belgrade airport, with Zurich Airport, the Vinci Group and Vienna Airport among those interested; plans call for upgrades to the airport and the addition of a new terminal.

In Romania, following last year’s election, asset sales should also pick up. Many sales will go through the Fondul Proprietatea, an exchange-listed closed-end fund established to compensate Romanians who lost money through state expropriation during the Communist era; it currently has some 50 companies in its portfolio, having sold such companies as Romgaz and electricity distribution company Electrica in 2013, through IPOs in both London and Bucharest. Among the companies slated to be sold are Posta, the national post entity, Salrom, the national salt monopoly, Bucharest’s Otopeni airport, the port of Constanta and CE Oltenia, an operator of coal-fired power plants.

Most interest will be focused on hydro-power producer Hidroelectrica, which has posted record profits following a far-reaching restructuring program and which produces some 25-30% of Romania’s total power output. Although final plans have yet to be announced, at least 25% of the company will be listed on the Bucharest exchange.

Meanwhile in Romania’s bank sector, Greece’s Eurobank EFG, as part of plans to reduce its overseas exposure, is looking for a strategic partner for its Bancpost operations; Bancpost has almost 150 branches across Romania and is one of the Greek bank’s biggest foreign investments. In Serbia, Komercialna Banka, Serbia’s second largest bank with assets of around €3 billion and Vojvodjanska Banka, with assets of around €1 billion and one of the best-established bank brands in the country, are up for sale. Next door in Macedonia two big banks, Stopanska Banka—the largest—and Tutanska Banka are also up for sale. But politics continues to hang over banks’ decision-making there. Branka Pavlovic of Societe Generale Ohridska Banka says ongoing political disputes and tensions have frustrated growth, something she expects to continue until there is more of a consensus among political parties.

“The banking sector in Macedonia is stable, well capitalized and liquid, with profitability continuing to improve in light of strong growth in net interest income. However, the political situation means that ‘wait and see’ behaviors are still restraining bigger investment deals. Consequently, the focus has moved to the individual segment,” she says.

The region’s ongoing economic recovery has led to a huge increase in the number of M&A transactions and other deals. Romania leads the pack: Last year its M&A market was valued at $3.54 billion, around the same level as in 2015, with 113 deals, with manufacturing the most traded sector and Germany, France and Poland the most active investors. Even Croatia, slower to see an increase in M&A due to years of sub-par economic growth, saw 28 deals, led by food and beverage, retail and real estate.

Jackson, Capital Economics: The economic crisis and then the euro crisis created a lot of excess capacity, which is now feeding growth.

So what lies ahead for SEE? Observers agree that structural and other reforms need to continue, as do improvements to the business environment that continues to remain opaque, overly bureaucratic and frankly, in some areas, corrupt, and thus a constraint on FDI.

Equally important, SEE needs to become less balkanized if it is to maximize its ongoing economic recovery. Pointing out that trade as a percentage of GDP in SEE is around 40% compared to 70-80% in CEE, the EBRD’s Peter Tabak says: “There’s lot of potential here—in trade and FDI and thus growth—that simply isn’t being realized. Governments across the region need to look seriously at how they can boost mutual trade and investment, which would generate benefits for all.”