Greek Debt Restructuring Could Foil Bulgaria's Growth Prospects - Ernst & Young

Bulgaria is forecast to achieve stable rates of economic growth over the next three years but that might be frustrated by the effects of potential restructuring of Greece's sovereign debt, according to Ernst & Young's Summer Eurozone Forecast.

"We forecast GDP growth of 3.2% in 2011, before picking up to 4.8% in 2012 and 5.6% in 2013. These good prospects are partly based on the large catch-up potential of the Bulgarian economy and its strong pre-crisis performance," says the forecast provided to Novinite.com (Sofia News Agency) by Ernst & Young Bulgaria.

The report of the global consultancy reminds that Bulgaria was hit hard by the crisis in 2009, with GDP contracting by 5.6%, and despite initial hopes the economy grew only 0.3% in 2010, "a very weak recovery." It says that the disappointing result last year was in large part due to a steep 3.2% decline in GDP in Q4 2009 – quarterly growth actually averaged 0.9% in 2010. However, GDP rose just 0.5% in Q1 2011, lower than the 2010 average, due to very weak private and public consumption, although exports continued to rise strongly with quarterly growth of 4.6%.

In spite of its optimistic forecast for the Bulgarian economy in the next three years – growth of 3.2% in 2011, 4.8% in 2012, and 5.6% in 2013 – which in the longer run is even more optimistic than the prognosis of the Bulgarian Finance Ministry (3.6% in 2011, 4.1% in 2012, 4% in 2013), Ernst & Young has warned that "risks to the forecast remain skewed to the downside, stemming mainly from uncertainties about external developments."

"These particularly relate to increased turbulence on European sovereign debt markets, with a restructuring of Greek sovereign debt looking increasingly likely. Unless this is handled well by the European authorities, then the repercussions for the EU could be severe. An uncoordinated Greek debt restructuring could lead to a considerable tightening of credit provision throughout the Eurozone, with the impact in Bulgaria being felt both via increased stress in its banking sector and via reduced demand for its exports," the global consultancy warns.

It points out that a further negative impact for Bulgaria could be a severe delay in the recovery of FDI, noting that since global liquidity evaporated, Bulgaria's FDI inflows plunged from 30% of GDP in 2007 to just 4.5% of GDP in 2010, and there was a small net outflow in Q1 2011. The forecast points out that given limited global appetite for risk, it is unlikely that Bulgaria's FDI inflows will approach pre-crisis levels again for some time. Further tightening following an uncoordinated Greek debt restructuring would delay any recovery of FDI, in turn holding back the recovery in Bulgaria.

With respect to the Eurozone, in its Summer Forecast, Ernst & Young stresses that sovereign debt concerns overshadow modest Eurozone recovery.

"One year into the sovereign debt crisis, we have reached a new stage. What was unthinkable one year ago, namely Greece requiring new financial assistance and having to restructure its sovereign debt. Assuming that governments and the ECB come to an agreement on a range of measures to take Greece through the next couple of years, Eurozone GDP is forecast to increase by only 2% this year and by 1.6% in 2012. It is in the interest of all to strike an agreement. The only alternative involves a disorderly restructuring that would plunge the whole Eurozone back into recession," says the report.

"Our forecast for 2011 has been revised upwards because of the positive signs that we saw in the first quarter of the year. However, there is still much uncertainty about the impact of Greek debt restructuring on the financial sector and its implications for the Eurozone economy as a whole. We could easily tip into a disorderly scenario where Eurozone GDP would fall significantly," Marie Diron, senior economic adviser to the Ernst & Young Eurozone Forecast, is quoted as commenting.

"The business environment across the Eurozone will be challenging for some time with slow economic growth and an uncertain investment environment providing little incentive for organizations to help deal with the critical issue of rising unemployment particularly in the periphery. Unemployment is forecast to remain above 13 million until 2015, compared with 11.5 million at the beginning of 2008," says in turn Mark Otty, Ernst & Young Area Managing Partner for Europe, Middle East, India and Africa.

An additional bailout package from the European Union and International Monetary Fund will only offer short-term relief for Greece, Ernst & Young points out.

"Despite dealing with the liquidity issue and giving the Greek government time to improve its fiscal accounts and make progress in structural reforms, a bailout will not provide a long-term solution," Marie explains.

In combination with the additional bail out, the forecast says believe a modest and orderly debt restructuring while no panacea, would offer some relief to the Greek government while trying to avoid uncertainty and chaos in the Eurozone financial and banking sectors.

However, such a limited restructuring will only have a moderate impact on the overall debt burden, and could fail in its primary objective to restore investors' confidence. A wider, more disorderly restructuring process which would then ensue would increase the risk of contagion to other countries.

While overall Eurozone growth will be weak and faces significant downside risks, Ernst & Young analysts expect that some countries will grow robustly in the next few years. In the "core" Eurozone countries including Germany, France and the Netherlands, GDP is forecast to rise by 2.2% per year on average in 2011 – 2015, a growth rate slightly higher than in the decade before the crisis. The report forecasts growth in 2011 of 3.5% in Germany, 4.1% in Finland and 2.2% in the Netherlands for instance. By contrast, in the periphery of Portugal, Ireland, Greece and Spain, GDP is forecast to rise by only 1.2% in the next five years, not even half the pace of the decade before the crisis.

"Eurozone prospects are also mixed at the sectoral level. Business services is among the sectors with the brightest outlook, with the Eurozone benefiting from a skilled workforce and established expertise in this area. The manufacturing sector is also expected to recover more quickly than the economy as a whole, benefiting from robust external demand for the Eurozone's goods, in particular from emerging markets," according to Ernst & Young's Summer Eurozone Forecast.

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