Economic Crisis in the East of the European Union:
Models of Development and the Contradictions of
Internationalization
Adrian Smith and Adam Swain1
Abstract: Two UK-based geographers specializing in the economies of East-Central Europe
and the former Soviet Union review the character and consequences of the global economic
crisis in these countries, focusing on how forms of geo-economic and geopolitical integration
undertaken during their post-socialist transitions have contributed to economic vulnerabilities
exacerbated by the emerging crisis. Particular emphasis is placed on the consequences for
East-Central Europe of adhering to a development model based on internationalization of the
financial sector, cheap credit, and increasing reliance on exports to compensate for energy
resource imports. The authors explore the likely distancing within the broader region of a
group of new “insiders” (Euro-zone countries as well as the new EU member states) from an
uneven landscape of “outsiders” (including Ukraine and other FSU states), as well as some of
the recent tensions emerging between old and new EU member states. Journal of Economic
Literature, Classification Numbers: F210, F360, G010, O180, P200. 8 figures, 8 tables, 108
references. Key words: global financial crisis, East-Central Europe, former Soviet Union,
­European Union, European Commission, European Economic Area, European Neighborhood
Policy, European Central Bank, CIS, U.S. banks, EU banks, euro, currency devaluation.
INTRODUCTION
O
n October 7, 2008, the National Bank of Ukraine was forced to rescue domestically
owned Prominvestbank, the country’s sixth-largest bank, after a collapse in metal prices
a month earlier led to a decline in industrial production. Two days later, the short-selling
Respectively, Professor, Department of Geography, Queen Mary University of London, London E1 4NS ­United
­ ingdom ([email protected]) and Associate Professor, School of Geography, University of Nottingham,
K
­Nottingham NG7 2RD, United Kingdom ([email protected]). Parts of this paper are based on work
­undertaken by Adrian Smith within the context of a U.S. National Science Foundation–funded project on the
­reconfiguration of European clothing production and trade and supported by the National Science Foundation award
numbers BCS/SBE/GRS 0225088 and GRS 0551085. Adrian Smith is particularly indebted to John Pickles, Milan
Buček, Rudolf Pástor, Robert Begg, and Poli Roukova for their help with field research and their ongoing collaborative support in relation to this research. The paper also draws on work by Adam Swain in the context of an ESRCfunded project on economic interdependence and comparative regional dynamics in China and the EU with Mick
Dunford, Godfrey Yeung, and Li Li, and a Nuffield Foundation project (SGS/32553) on the impact of FDI in Donetsk
Oblast, Ukraine. Adam Swain would like to acknowledge discussions with Vlad Mykhnenko, Jan Drahokoupil, and
Shaun French, which contributed to some of the ideas developed in this paper. Lastly, we are very grateful to Thomas
Wainwright for comments on an earlier version of the paper and to Ed Oliver for producing the maps and some of
the figures.
1
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Eurasian Geography and Economics, 2009, 50, No. 6, pp. 1–XXX. DOI: 10.2747/1539-7216.50.6.1
Copyright © 2009 by Bellwether Publishing, Ltd. All rights reserved.
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EURASIAN GEOGRAPHY AND ECONOMICS
of shares in the Hungarian bank, OTP, the largest independent commercial bank in Central
Europe, led to a collapse in its share price and financial investors ceased buying government bonds, triggering a devaluation of the forint (Andor, 2009b). The outbreak of the global
financial-economic crisis, which had been triggered by a collapse in the U.S. housing market
in August 2007 (Aglietta, 2008), forced the Ukrainian government to introduce currency controls as the hrvynia collapsed, and to take a $16.4 billion loan from the International Monetary
Fund (IMF) in November 2008 to recapitalize the banking system and provide budget support. After two domestic industrialists failed to raise sufficient capital, Prominvestbank was
sold to Russia’s Vneshekonombank in January 2009. Meanwhile, the Hungarian government
was compelled to take a $15.7 billion loan from the IMF in the same month as Ukraine, while
OTP secured a €220 million loan from the European Bank for Reconstruction and Development (EBRD) in July 2009. [Authors: Please indicate source and supply reference]
Both countries were affected by the disappearance of financial liquidity in the context of
the collapse of Lehman Brothers in September 2008, but their vulnerabilities were different.
Hungary experienced a fiscal crisis because it was suddenly unable to finance its relatively
large budget deficit, which then spread to the real economy (i.e., non-financial sectors of
the economy). In contrast, depressed global demand for metal products in the real economy
­resulted in a banking crisis in Ukraine because the private sector was suddenly unable to
finance its external debt.
From Ukraine and Hungary, the financial crisis expanded to embroil the Baltic countries
and Russia, while the worldwide decline in demand, volatile commodity markets, and reduction in migrant remittances ensured the entire region was affected. The crisis is still reverberating across the region a year later, with reports of the possible meltdown of the Latvian
banking system in October 2009, with potentially profound implications for the Swedish
financial sector which was the primary owner of the Latvian banks (Traynor, 2009). Not only
was the crisis for many countries their first “post-transition” recession,2 thus contradicting
expectations at the time of the demise of the Soviet bloc, but also for many countries the crisis
occurred after a sustained period of economic growth in the early part of the 21st century during which individuals became increasingly financialized (Stenning et al., 2010b). [Author:
“financialized”: meaning that the lives of individuals had became increasing affected by
financial matters?]
Although East-Central Europe (ECE) and the former Soviet Union (FSU) have been the
most affected of all emerging markets, the EBRD, the multilateral bank established in 1991
to promote “transition,” has emphasized the external origins of the crisis and downplayed its
effects. The EBRD argues that the region’s financial integration into the European banking
system acted as a buffer by reducing the reversal of capital flows associated with previous
crises (EBRD, 2009c). Equally, Drahokoupil and Myant (2009) have recently argued that
the financial crisis was largely an external shock that affected the ECE and FSU countries in
different ways. However, the unfolding crisis in ECE and the FSU cannot simply be understood as internal adjustments to an external crisis stimulated by the international financial
meltdown in the United States and Western Europe (Bohle, 2009, 2010). Rather the region’s
integration into geo-economic and geopolitical structures following the collapse of the Soviet
system contributed to the vulnerabilities that resulted in the “American” financial-economic
crisis (Sidaway, 2008; Tiits et al., 2008). Rival models of post-communist market-led economic development, and especially the role of the financial and energy sectors within those
I.e., a crisis of capitalism rather than a “transitional depression” resulting from the adoption of policies attempting
to shift from a planned to a market economy (see Pickles and Smith, 1998).
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SMITH AND SWAIN
3
wider models, and their associated geopolitical projects (Pickles and Smith, 1998; Smith et
al., 2008; Swain et al., 2010), produced the economic imbalances in the region and beyond
that were an underlying cause of the global crisis (Wolf, 2009). New financial markets in
ECE and FSU—which were christened “emerging Europe” by the investment community
(cf. Sidaway and Pryke, 2000; Smith 2002)—contributed to the growth and profitability of
international finance organizations as credit markets and opportunities for foreign investment
in the banking systems of ECE were opened up, and as there was an increased reliance on
external financing across the region. Whereas ECE and parts of the FSU served as consumers
of the glut of liquidity in the financial system, Russia and other parts of the FSU served as a
reservoir of liquidity.
The “American crisis” has important implications for public policy in ECE and FSU
countries. Even officials working for the World Bank have retrospectively questioned the
prevailing development model in the region, while also recognizing the influence of domestic
factors:
[W]hile the process of financial integration against the backdrop of high global
­liquidity reinforced the upswing features of the business cycle, not all countries
­exposed themselves equally to the risks of a change in market sentiment. Domestic
macroeconomic policies were tightened in some countries but, quite remarkably,
were loosened further in others during the period preceding the global crisis, which
could have exacerbated their vulnerabilities. But private sector imbalances also
­accumulated owing to other factors, such as integration into European production
and financing structures as well as differences in initial conditions, such as lagging
consumption of housing and low levels of private debt. Thus, while differences in
policy alone would not have eliminated the emerging vulnerabilities given the magnitude of capital inflows during this period, better policies might have made the
impact of the global financial crisis less severe. (Mitra et al., 2010, p. 63–68).
The emergence of ECE as a debtor region dependent on importing capital and the FSU
as a creditor region exporting capital highlighted the imbalances underlying the crisis. Predatory lending by European banks that engaged in highly profitable currency arbitrage meant
that ECE borrowed foreign currency to finance domestic consumption. This meant there was
insufficient generation of foreign currency to repay the debt, while devaluation threatened to
bankrupt the banking system.
This paper considers the nature and consequences of this global economic crisis in ECE
and the FSU, and examines how the forms of geo-economic and geopolitical integration contributed to economic vulnerabilities in the region that became apparent as the crisis unfolded.
We argue that the crisis is as much internal to the region/Europe as it is an adjustment to an
external shock (the so-called “American crisis”), and focus on the ways in which the models
of development and internationalization pursued during the “transition to capitalism” created
vulnerabilities to wider economic crisis.
The paper is organized as follows. In the first section, we examine the uneven impact that
the global financial and economic crisis has had on ECE and the FSU, and explore briefly the
role of intervention by international financial institutions in an attempt to stabilize the economic and banking crisis in the region in the general absence of large state-led bailouts seen
in Western Europe and the United States. The following two sections argue that the crisis has
to be understood within the context, first, of a particular model of development wedded to the
internationalization of the financial sector and cheap credit in the region, and second, to the
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EURASIAN GEOGRAPHY AND ECONOMICS
internationalization and increasing dependency on export markets in the attempt to balance
the importation into ECE of increasingly expensive energy from resource-rich parts of the
FSU. We then examine the wider geopolitical consequences of these geo-economic transformations in the lead-up to and during the economic crisis, devoting particular attention to how
the crisis is reconfiguring relations across Europe. In particular, we highlight the likely consolidation of a group of new “insiders” to the EU project (those in the Euro-zone and the new
EU members) and an uneven landscape of “outsiders” (including Ukraine and the critical distancing of others)—a geopolitical landscape that was emerging before the crisis, but likely to
be consolidated further, albeit with its own internal differentiation. We also examine some of
the recent tensions that the crisis has brought within the new EU member states and between
old and new member states. In the conclusions, we return to the broader issue of whether the
current crisis can be avoided in the future through a continued commitment to a particular
model of globalized and financialized economic growth, which some are now suggesting.
THE IMPACT OF THE FINANCIAL AND ECONOMIC CRISIS
ON ECE AND THE FSU
The impact of the 2007–2009 global financial and economic crisis on the world economy has been highly uneven and may potentially reverse the development gap between the
­Western and Eastern hemispheres (Dunford and Yeung, 2009; Table 1A). Japan was forecast to experience the longest and deepest decline in GDP, whereas the remainder of Asia,
driven by continued albeit lower growth in China, was expected to be least affected. In the
European area, the EU was expected to fare worse than both its candidate countries (Croatia,
Macedonia, and Turkey) and the Commonwealth of Independent States (CIS). However, the
aggregated impact of the crisis concealed significant national differences depending on each
country’s macroeconomic situation, the characteristics of its national economy, and the policy
responses to the crisis. Drahokoupil and Myant (2009) argue that the crisis unfolded in four
stages, beginning with a liquidity shock following the bankruptcy of Lehman Brothers in
September 2008, followed by a fall in external demand resulting in reduced exports, a period
of macroeconomic adjustment, and culminating in fiscal crises of the state.
Within ECE and the FSU, the most severely affected countries were the three Baltic
republics, together with Armenia and Ukraine (Table 2, Figs. 1 and 2). The Baltic economies
were all small, highly liberalized, and externally oriented, depending on importing capital and
energy supplies, and had experienced a large credit-fueled bubble in the real estate sector.3
They, and other severely affected countries, suffered from the prevalence of foreign currency loans. Ukraine, a much larger economy, underwent a similar development trajectory
following the Orange Revolution in late 2004 (Åslund, 2009; Mykhnenko and Swain, 2010).
­Armenia was affected by a decline in remittances from Russia, which was itself severely
affected by depressed demand and lower prices for its energy exports and a reversal in capital
flows (e.g., see O’Hara et al., 2009, p. 471). Some countries, especially in the FSU, have
avoided freefalls in GDP, although their growth rates did contract considerably (Table 1C,
Figs. 1 and 2), namely energy-exporting countries such as Azerbaijan, Uzbekistan, and Turkmenistan in Central Asia, which benefited from a bubble in energy prices in 2007–2008 when
financial traders switched from trading securitized debt to trading oil and gas (Gowan, 2009,
pp. 5–6). In Central Europe, Poland has also avoided a recession by not having expanded
credit in domestic and foreign currency to the extent that other countries did, which was no
On Latvia, see Bohle (2009, 2010).
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SMITH AND SWAIN
5
Table 1. Real Annual Change (A), Highest Decrease (B), and Highest Increase (C) in the
GDP of Selected Countries, 2005–2010 (in percent)
Region/country
United States
Japan
Asiab
EU
EU candidate countriesc
CIS
Middle East and North Africa
Latin America
Sub-Saharan Africa
World
Lithuania
Latvia
Armenia
Estonia
Ukraine
Moldova
Romania
Russia
Hungary
Georgia
Azerbaijan
Uzbekistan
Turkmenistan
Tajikistan
Kyrgyzstan
Poland
Albania
Mongolia
2005
2006
2007
2008
2009
2010
A. Real annual changea
2.9
2.8
2.0
1.9
2.0
2.4
8.3
9.1
9.7
2.0
3.1
2.9
8.0
6.7
4.8
6.7
8.4
8.5
6.8
6.4
7.0
4.6
5.4
5.6
5.6
6.5
6.6
4.5
5.1
5.1
1.1
– 0.7
6.9
0.9
1.3
5.6
5.9
4.2
5.2
3.1
– 2.9
– 5.3
3.3
– 4.0
– 3.6
– 3.8
1.5
– 1.6
2.5
– 1.4
0.9
0.1
5.6
– 0.1
2.1
1.4
1.6
1.6
3.5
1.9
7.8
10.6
13.9
9.4
2.7
7.5
4.1
6.4
4.0
9.6
B. Highest annual decreased
7.8
8.9
3.0
12.2
10.0
– 4.6
13.2
13.7
6.8
10.0
7.2
– 3.6
7.3
7.9
2.1
4.8
3.0
7.2
7.9
6.2
7.1
7.7
8.1
5.6
3.9
1.2
0.6
9.4
12.3
2.1
– 18.5
– 18.0
– 15.6
– 14.0
– 14.0
– 9.0
– 8.5
– 7.5
– 6.7
– 4.0
24.3
7.0
13.0
6.7
– 0.2
3.6
5.8
7.3
C. Highest annual increased
30.6
23.4
11.6
7.3
9.5
9.0
11.4
11.6
10.5
7.0
7.8
7.9
3.1
8.5
7.6
6.2
6.8
4.9
5.5
6.3
8.6
10.2
Percentages for 2008, 2009, and 2010 are estimates.
Excluding Japan.
cCroatia, FYR Macedonia, and Turkey.
d
Percentages for 2009, and for Tajikistan and Albania in 2008, are forecasts.
Sources: Compiled by authors from European Commission, 2009a (spring trends) and IMF, 2009.
a
b
doubt underpinned by the earlier debt writeoffs in the early 1990s that enabled the securing of
a market-led transition process. Poland also benefited from a large domestic market and the
presence of export sectors, such as automobiles, that benefited from anti-crisis interventions
to boost demand in Western Europe. The other countries that avoided GDP declines depended
on remittances which were less immediately affected by the crisis and on official aid.
The absence of credit, exchange rate volatility, and declining demand rapidly transferred
the economic crisis from the financial sector to the rest of the economy across the region.
This in turn increased the rate of non-performing loans, which further undermined banking systems. Inflows of FDI, which had underpinned the economic development model in
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EURASIAN GEOGRAPHY AND ECONOMICS
Table 2. FDI Inflows to Selected Countries, 2008–2009 (in million $US)
Country
Russia
Kazakhstan
Belarus
Ukraine
Serbia
Albania
Montenegro
Georgia
Macedonia
Moldova
Bosnia and Herzegovina
Kyrgyzstan
Q1
Q2
20,537
2,690
907
2,596
1,255
155
244
538
172
129
118
75
22,679
3,476
308
3,762
1,071
188
292
605
201
191
209
64
2008
Q3
Q4
2009
Q1
16,799
4,299
809
3,401
331
267
221
135
133
259
382
54
10,305
4,078
135
934
338
331
183
286
93
134
294
39
9,993
2,539
971
957
828
161
144
125
71
49
40
–9
ECE, also dramatically decreased during the crisis (cf. Drahoukopil, 2008; Table 2, compiled from UNCTAD, 2009). Contractions in GDP affected labor markets as employees’ real
wages and/or hours were reduced and unemployment rose. Unemployment rose the most in
countries that were most severely affected by the crisis—9 and 8.8 percent in Lithuania and
Estonia, respectively, between 2007 and May 2009 (Table 3, compiled from the database of
the ­International Labor Organization’s labor force surveys). But even in Poland the unemployment rate increased by 0.8 percent between 2008 and May 2009.4 Recent World Bank
reports suggest that the economic crisis is having a significant impact on the everyday lives
and prosperity of individuals and households across the region, on top of the unequal social
and labor market consequences of earlier rounds of economic growth during the late 1990s
and early 2000s (Smith et al., 2008, 2010; Mitra et al., 2010; Stenning et al., 2010a). For
example, recent predictions suggest that 15 million more persons will fall below the poverty
line in ECE and the FSU (World Bank, 2009a), at a time when government deficits are predicted to increase to an average of 5.5 percent in 2009, suggesting limited state flexibility in
ameliorating the worst excesses of increasing poverty (Drahokoupil and Myant, 2009). The
social impacts of the crisis and the limits to the state’s interventions resulted in social unrest,
for example in Hungary and Bulgaria (Bohle, 2009, 2010), and political instability in other
countries.
National responses to the financial and then wider economic crisis included insuring
deposits, injecting liquidity, and the recapitalization of banks, but the precise interventions
depended on the characteristics of the economy as well as the mechanisms and finance available to government. Russia’s large currency reserves were used to finance a budget deficit and
a fiscal stimulus in 2008 and 2009 worth 6.7 percent of GDP (World Bank, 2009b, p. 9). The
state was also able to intervene in foreign exchange markets to manage the devaluation of the
ruble. Free-floating currencies, such as the Hungarian forint, were rapidly devalued by approximately 30 percent, thereby limiting wider effects and preventing more severe ­contractions
For an assessment of the variation in regional unemployment rates within and among eastern-tier EU countries
before and during the crisis, see Marksoo et al. (2010, this issue).
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SMITH AND SWAIN
Fig. 1. Change in national GDP, 2001–2010 in Eastern Europe and western Former Soviet Union. Figures for 2010 are forecasts. [Authors: Please
indicate source.]
7
Fig. 2. Change in national GDP, 2001–2010 in central and eastern Former Soviet Union. Figures for 2010 are forecasts. [Authors: Please indicate source.]
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EURASIAN GEOGRAPHY AND ECONOMICS
SMITH AND SWAIN
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Table 3. Unemployment Change in Selected Countries, 2007–2009 (percent)
Country
Lithuania
Estonia
Latvia
Ukraine
Russia
Hungary
Czech Republic
2007
2008
2009
Change
4.3
4.7
6.0
6.4
6.1
7.4
4.2
5.8
5.5
7.5
6.4
6.3
7.8
3.5
13.6a
13.5a
  9.4b
  9.5c
  8.5b
  9.6a
  6.3a
9.3
8.8
3.4
3.1
2.4
2.2
2.1
May.
February.
c
March.
a
b
in GDP. For other countries, whose currencies were pegged to the euro or other currencies
(e.g., the Lithuania litas) and where governments intervened to prevent devaluation, greater
GDP contractions have been experienced. Slovenia and Slovakia, which adopted the euro in
2007 and 2009, respectively, were protected from exchange-rate volatility,5 and some nonEurozone governments considered accelerating the adoption of euro but the ­European Central
Bank (ECB) has not encouraged this (Andor, 2009a).
The characteristics of each country’s banking system also has determined possibilities
for government intervention (Andor, 2009a; see below). The extent of bank lending in foreign
currencies limited the utility of interest rate changes, as clients could engage in currency substitution. Where the sector was dominated by a small number of foreign banks, there was little
scope for government-led restructuring due to lack of resources. However, in some countries,
such as Ukraine, the relatively unconsolidated and low level of foreign ownership enabled
governments to reorganize the sector.
The financial and economic crisis had wider effects, particularly in neighboring countries
to the west, whose banks had invested in ECE and FSU. Austrian banks were particularly
exposed to neighboring banks in ECE, Nordic banks to the Baltic countries, and Greek banks
to Southeast European countries (Maechler and Ong, 2009). Austria devised a €100 billion
bank stabilization program that involved recapitalizing banks, providing bank guarantees,
and insuring domestic deposits. Austria also played a significant role through the European
Bank Coordination Initiative (also known as the Vienna Initiative), which mobilized external
support for ECE banking systems and their economies in general.6 The IMF coordinated
“stress tests” intended to cleanse banking systems, while the EU also sought to significantly
increase its cross-border surveillance and supervision of member states’ banking systems;
the IMF had by mid-2009 established what might be termed a new Marshall plan, and had
committed to lend $81.8 billion to 13 countries in the region mostly to finance budget deficits (IMF, 2009a, pp. 14, 61). The EU augmented loans by the IMP to its member states.
Compared to earlier periods of crisis, loan conditionality was more focused and less severe.
However, Slovakia had experienced dramatic appreciation of the koruna against the euro in the run-up to joining
the Eurozone.
6
The Vienna Initiative was a forum established in early 2009 in which EU banking groups, their home and host countries, along with international financial institutions (IFIs) and the European Commission could coordinate responses
intended to ensure that foreign banks did not divest from ECE and FSU countries (EBRD, 2009c, p. 18).
5
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EURASIAN GEOGRAPHY AND ECONOMICS
This might be explained by the competition the IMF faced with other lenders such as Russia,
which lent €4 billion to Iceland in October 2008 and €1 billion to Serbia in October 2009,
raising questions over its wider geopolitical intentions. While the IMF supported government finances, the World Bank has increased support to $12.5 billion in 2009 and the EBRD
(in particular), World Bank, and European Investment Bank have supported the private (and
especially banking) sector.7
FINANCIALIZATION AND EUROIZATION: EUROPE’S “SUBPRIME” CRISIS
The uneven geography of the economic crisis in ECE and FSU was an expression of
the different ways countries in the region had been integrated into the international financial
system and the role played by the financial sector in different countries’ broader models of
development. Moreover, the forms of integration produced significant financial imbalances
within the region, and also between the region and the rest of the world. At an aggregate level,
a marked difference existed between ECE and FSU. Following the financial crisis in 1998,
Russia and the FSU ran a current account surplus and accumulated significant foreign currency reserves that only began to be depleted by attempts to defend currencies once the crisis
emerged in the U.S. in 2007 (Fig. 3). While the relatively low net flows of FDI and portfolio
investment gradually increased after 1998, short-term private financial flows only accelerated
in 2006 before rapidly reversing in 2007. In contrast, ECE ran a current account deficit that
rapidly accelerated in 2005 and only accumulated relatively small reserves of foreign currency (Fig. 4). Net flows of FDI were consistently higher than flows of portfolio investment,
while short-term private financial flows increased significantly from 2004 until 2007 before
declining in 2008. However, these aggregate data conceal a more complex geography.
The entire region was divided between a small number of countries that were accumulating capital and a larger number that were dependent on the importation of capital—not least
as FDI (Drahokoupil, 2008). The vast majority of ECE, the Baltic countries, plus Georgia
and perhaps Ukraine had been incorporated by “Western” geo-economic and geopolitical
structures into the international financial system as debtors, whereas Russia and some parts
of the CIS, which competed with those structures, were integrated as creditors. There were
some cases, for example Ukraine, which following an episode of political disorientation had
switched from accumulating to importing capital (Mykhnenko and Swain, 2010). There was
also some interdependence between the creditor and debtor countries. Privately owned commercial and financial assets in Russia and elsewhere were listed on booming stock exchanges
in the cities of Central Europe (e.g., Warsaw and Vienna), the same cities used by Austrian
banks as staging grounds for expansion into the markets of neighboring countries to the east.
Also, as investors switched from “subprime” debt to trading oil, a bubble in energy prices
benefited creditor countries (Gowan, 2009, pp. 5–6). Indeed, Russian state and privately
owned banks used the distressed sale of Ukrainian banks to expand their foreign operations
(Åslund, 2009, p. 381).
Russia and three other former Soviet republics (Azerbaijan, Turkmenistan, and ­­Uzbekistan)
were creditor countries with positive current accounts in 2008 that depended on exporting
commodities (especially oil and gas) and were thereby exposed to fluctuating commodity
For example, the EBRD’s most recent intervention was a €430 million loan to support Unicredit, the largest bank in
the region [Author: What region?], replicating the banking bailouts in Western economies and allowing it to keep
up the flow of loans to businesses (Stewart, 2009).
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11
Fig. 3. Current account balance and change in reserves of Central and Eastern European (A) and
CIS countries (B), 1980–2008. A negative figure for change in reserves equates to an increase in reserves.
­Central and Eastern Europe includes Albania, Bosnia-Herzegovina, Bulgaria, Croatia, Estonia, ­Hungary,
Latvia, Lithuania, FYR Macedonia, Montenegro, Poland, Serbia, and Turkey (the Czech Republic,
Slovakia,a nd Slovenia are excluded because they are classified by the IMF as “advanced economies”). The
­Commonwealth of Independent states includes Armenia, Azerbaijan, Belarus, Georgia, Kazakhstan, ­Kyrgyz
­Republic, Moldova, Russia, Tajikistan, Turkmenistan, Ukraine, and Uzbekistan, as well as ­Mongolia (not
part of FSU). Source: Compiled by authors from IMF World Economic Outlook database.
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EURASIAN GEOGRAPHY AND ECONOMICS
Fig. 4. Net financial flows Central and Eastern European (A) and CIS countries (B), 1980–2008. The
category “private flows” includes both private portfolio and other private financial flows. Central and Eastern Europe includes Albania, Bosnia-Herzegovina, Bulgaria, Croatia, Estonia, Hungary, Latvia, Lithuania,
FYR Macedonia, Montenegro, Poland, Serbia, and Turkey (the Czech Republic, Slovakia,a nd Slovenia are
excluded because they are classified by the IMF as “advanced economies”). The Commonwealth of Independent states includes Armenia, Azerbaijan, Belarus, Georgia, Kazakhstan, Kyrgyz Republic, Moldova,
Russia, Tajikistan, Turkmenistan, Ukraine, and Uzbekistan, as well as Mongolia (not part of FSU). Source:
Compiled by authors from IMF World Economic Outlook database.
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Fig. 5. Current account position of selected Eurasian countries, 2008 [Authors; 2008 or 2007].
Source: Compiled by authors from IMF (2009b).
prices (Fig. 5).8 Moreover, these countries’ banking sectors were predominantly domestically
owned, including a degree of state ownership (19 percent of assets in Russia) (see Figs. 6 and
7). Following demonetization after the dissolution of the Soviet Union, new national states
introduced new currencies that formed the basis for the organization of first local and later
national and regional capital markets (Woodruff, 1999). The privatization of both financial
and non-financial enterprises along with residual state ownership meant the state continued
to play an influential role in the development of the sector (Allan, 2002). Indeed, the growing
resilience of the financial system and of the state were closely interrelated. The 1998 Russian
financial crisis ended inflation targeting, reduced the state’s dependence on debt financing,
and encouraged an interventionist state not only in the banking sector but especially in the
energy sector. Moreover, the crisis also re-oriented banks away from acquisition of government bonds and financial speculation toward recycling savings for investment (Lane, 2002).
The accumulation of capital then was accompanied by the development of an indigenous
banking system comprising restructured Soviet-era and de novo banks, often associated with
particular regions, sectors, or business groups that specialized in corporate banking.
Thus, the banking system was closely integrated into a predominantly privately owned
industrial economy (i.e., private equity) in Russia and associated countries, but as capital
See also the discussion below on trade balances that underpinned the raw material and commodity boom in parts of
Russia and the CIS.
8
14
EURASIAN GEOGRAPHY AND ECONOMICS
Fig. 6. International ownership of banking assets in selected Central and East European member
states of the EU, 2003–2008 (including Albania, Serbia, Bosnia-Herzegovina, and Montenegro, officially
recognized as “potential candidate countries”). Source [Authors: Please indicate source.]
requirements and capital accumulation increased, capital markets developed. This liquidity in equity markets increased, which encouraged owners to transform private equity into
public equity, which underpinned rapidly rising stock markets and the growth of Moscow
as a regional financial center (Gritsai, 2004). This meant that Russian business was able to
raise capital through equity and not simply bank loans. This form of development involved
the creation of buffers that acted to at least partially insulate the Russian banking system
from a potentially wider financial crisis. In addition, as oil and gas prices increased after
2000—85 percent of oil export revenues went to the Russian national treasury—(Setser,
2008, p. 24),9 Russia accumulated $500 billion in foreign currency reserves and established
For a recent overview of Russian state control of the country’s oil industry, see Hanson (2009).
9
SMITH AND SWAIN
15
Fig. 7. International ownership of banking assets in the Former Soviet Union, 2003–2008 (also including Mongolia). Source [Authors: Please indicate source.]
sovereign wealth funds to recycle petrodollars through international capital markets (ibid., p.
18). A ­Stabilization Fund was established in 2004 with a value of $200 million and a second
fund, the National Welfare Fund worth $32 billion, was established in 2008 (Tabata, 2007;
­­Mezzacapo, 2009, p. 92). Together these two sovereign wealth funds were worth 17.5 percent
of the country’s GDP in 2007 and represented the sixth-largest such fund in the world.10 While
Russia’s accumulation of capital helped to finance the U.S. deficit, it also pumped yet more
liquidity into an international financial system already awash with money generated within
the U.S. financial system (Nesvetailova and Palan, 2008). The increase in the volume of
capital to be recycled and earn the maximum rate of return produced the asset price inflation,
much as what occurred in the early 1980s following the oil crises (Lipietz, 1984).
10
In 2000, Kazakhstan established a similar fund, the Kazak National Fund, worth $38 billion in 2007. [Author:
Please indicate source]
16
EURASIAN GEOGRAPHY AND ECONOMICS
Table 4. Largest International banks in ECE, 2008
Bank
Country
Assets
(bill. €)
Unicredit
Raiffeisen
Erste
Société Genérale
KBC
OTP
Italy
Austria
Austria
France
Belgium
Hungary
108.7
  85.4
  79.2
  67.1
  66.6
  43.2
Market
share in
percent of
assets
6.0
4.7
4.4
3.7
3.4
2.4
Percent
Loan/
of group Investment credits
assets
(mill. €) (percent)
  10.4
100.0
  53.0
   5.9
  20.9
100.0
3,436
3,231
2,099
2,710
1,756
1,533
131
136
101
105
  89
139
Whilst in Russia the development of an indigenous banking industry resulted in the emergence of Moscow as a financial center, ECE was much more closely integrated into the West
European banking system, primarily through foreign investment (cf. Figs. 6 and 7). From
as early as the late 1980s, when initiatives to link banks in central Europe with banks in the
“West” began, external actors played a dominant role in the development of the banking
sector (Epstein, 2008). Equally, the reorganization of central banks in the early 1990s and
the political goal of accession to the EU that would entail eventual monetary union meant
that financial reform became synonymous with liberalization and integration with the West
European banking sector (Johnson, 2008). In 1995, the combined power of the U.S. Treasury,
the IMF, and the EBRD compelled the Polish government to abandon a plan to retain state
ownership in the banking sector and to consolidate several banks to form an internationally
competitive banking conglomerate (Epstein, 2008, pp. 110–111). As a result, state-owned
banks across the region were privatized to Western European banking groups.
Foreign ownership of banking assets reached high proportions in some countries by the
late 1990s, with a second wave of foreign investment occurring more recently; Figs. 6 and
7).11 For example, in Slovakia, the proportion of equity capital in the commercial banking sector under non-Slovak ownership increased from 12 percent in January 1993 to 91 percent in
March 2009.12 The speed of international penetration of capital in the Slovak banking sector
increased rapidly during the 2000s, from a level of 25 percent in 2000. The five largest international banks in the region, which had invested €13.2 billion and commanded a 22 percent
market share of assets, were all externally owned (see Table 4, based on Raiffeisen, 2009). A
particular geography of FDI was evident in the financial sector, as noted by Karreman (2009,
p. 265): “The parent–subsidiary network shows a distinct spatial configuration of financial
centres organized around three main city clusters: a Southeast European cluster controlled by
Athens, a Central European cluster controlled by Vienna, and a Baltic cluster controlled from
Copenhagen and Stockholm.”
Foreign ownership of banks in ECE was accompanied by a credit-fueled growth model
with similarities to the subprime market in the United States (Dymski, 2009; on the UK, see
Slovenia is an exception to this generalization.
Elaborated on the Narodná banka Slovenska website (http://www.nbs.sk/en/statistics/a-survey-of-financial-sectordevelopment).
11
12
SMITH AND SWAIN
17
Table 5. Lowest External Debt (A), Highest External Debt (B), and Total Loans (C)
as Percentage of GDP in Selected ECE and FSU Countries, 2003–2008
Country
2003
2005
2006
2007
2008
Uzbekistan
Azerbaijan
Belarus
Russia
Georgia
A. Lowest external debta
43.7
37.3
31.3
37.7
40.2
32.8
23.4
21.3
17.1
43.1
36.1
33.6
49.0
39.2
33.3
  22.1
  23.2
  18.4
  31.7
  25.7
  16.7
  18.6
  28.1
  36.4
  30.8
  13.4
  13.8
  24.6
  28.8
  35.6
Latvia
Hungary
Estonia
Slovenia
Bulgaria
B. Highest external debta
84.0
97.7
94.7
61.6
67.1
76.5
71.8
84.6
80.9
52.7
56.7
71.3
67.2
70.1
71.3
119.2
  90.5
102.4
  77.5
  86.0
135.4
  96.8
119.3
100.6
107.6
124.0
114.4
114.1
105.7
103.5
  64.8
  45.1
  44.8
  67.6
  47.4
  43.9
  46.3
  40.3
  30.2
  29.9
  29.0
  24.8
  81.4
  59.2
  67.1
  70.7
  52.0
  50.6
  53.6
  44.6
  36.0
  38.0
  33.9
  29.8
  89.8
  77.3
  75.2
  73.8
  58.7
  56.0
  57.5
  47.1
  46.2
  42.0
  40.5
  37.3
Slovenia
Ukraine
Bulgaria
Croatia
Hungary
Czech Republic
Bosnia-Herzegovina
Slovakia
Poland
Russia
Serbia
Belarus
2004
C. Total loans
47.0
25.7
34.4
53.6
38.7
37.5
34.6
33.0
24.5
23.0
23.5
18.2
53.4
32.5
41.4
59.7
43.3
40.7
41.7
37.5
26.0
25.6
29.2
19.2
a
Percentages for 2008 are estimates.
Sources: Compiled by authors from EBRD, 2009 and Raiffeisen, 2009.
[Authors: Can you supply data for total loans in 2003 (in section C of the table), actual data (rather
than estimates) for 2008, and estimates for 2009? Also is source of data EBRD Transition Report
2009?]
Wainwright, 2009 and French et al., 2009).13 Europe’s own “subprime” market involved rapid
year-on-year increases in domestic credit, which fueled rapid growth in domestic consumption that in turn inflated asset (especially real estate) prices, led to a demand for more credit,
and became the primary engine of economic growth in many countries (Table 5A). As the
growth in deposits lagged behind the growth in credits, the expansion of credit could not be
U.S. housing finance institutions provided credit to “subprime” clients, many of whom formed part of the poor
u­ rban Black population, to purchase real estate at inflated prices. Originators securitized the debt in ways that
masked exposure to subprime debt and sold it to financial institutions (many of which were located in Western
Europe), undermining market participants’ faith in the capital markets and their willingness to provide further credit
­(Nesvetailova and Palan, 2008).
13
18
EURASIAN GEOGRAPHY AND ECONOMICS
Table 6. Claims of Foreign Banks on Selected ECE
and FSU Countriesa
Country
Croatia
Estonia
Latvia
Slovak Republic
Hungary
Czech Republic
Bulgaria
Lithuania
Romania
Poland
Ukraine
Russia
Othersb
Percent of host
country GDP
Percent of foreign
claims to region
157.2
142.2
103.6
  94.1
  93.1
  90.7
  77.9
  64.8
  63.5
  49.7
  29.3
  15.2
  6.2
  2.1
  2.0
  5.1
  9.2
11.4
  2.2
  1.8
  7.4
15.2
  2.9
13.9
20.7
As of end of 2007.
Including Turkey.
a
b
financed domestically. The rapid growth in domestic credit was financed by West European–
owned banks, engaging in arbitrage by borrowing in the inter-bank money markets in Western
Europe at relatively low rates of interest and transferring the capital to their subsidiaries in
ECE that lent to under- or unbanked corporate and retail clients at higher interest rates; after
1998, 85 percent of new credit issued in the 10 new EU member states was originated by foreign-owned banks (World Bank, 2007, p. 16). For the international banking groups this was
highly profitable, but the ratio of bank credits to bank deposits deteriorated or remained the
same in all countries except Serbia and Bosnia-Herzegovina. It also increased foreign bank
lending as a proportion of the host country’s GDP (Table 6). When combined with sovereign
external debt, some countries accumulated significant total external debt (Table 5C).
A further dimension of this emerging subprime market was the transfer of exchange-rate
risk from the banks to their corporate and retail clients. Clients took advantage of lower interest rates on loans in foreign currency (Swiss franc, euro, or U.S. dollar) than for domestic
currency loans and of anticipated appreciation of local currencies. The pricing of consumer
goods in foreign currencies in some countries, combined with exchange-rate volatility, also
encouraged foreign currency loans (Table 7). More broadly, the maintenance of exchange rate
stability through a variety of currency regimes including hard or soft pegs, currency boards,
managed floats, and corridors, either at a higher valuation to restrain inflation or at a lower
valuation to promote exports, encouraged borrowing, particularly in foreign currency. Remittances and the anticipation of formal adoption of the euro also reinforced foreign currency
lending. This contributed to the creeping “Euroization” of ECE economies and a de facto
informal monetary union without the political authorities and regulatory structures intended
to underpin the European Economic and European Monetary Union (EMU; see Becker, 2007;
Becker and Weissenbacher, 2007).
SMITH AND SWAIN
19
Table 7. Foreign-Currency Loans to Selected ECE and FSU Countries as Percentage
of Total Loans, 2001–2008
Country
2001
2002
2003
2004
2005
2006
2007
2008
Hungary
Croatia
Ukraine
Romania
Bulgaria
Poland
Russia
Belarus
Slovakia
Czech Republic
Serbia
Bosnia-Herzegovina
Slovenia
26.2
11.9
44.2
47.1
36.8
21.1
33.7
n.d.
17.2
17.1
79.3
23.0
12.4
41.8
49.3
43.9
23.9
36.7
51.9
17.1
15.0
43.2
25.0
10.3
41.7
45.0
43.6
30.3
33.8
50.4
20.3
13.5
37.9
31.8
n.d.a
42.2
52.3
48.2
24.2
31.0
43.8
22.4
12.8
30.3
15.4
39.5
n.d.
43.3
47.8
47.8
26.2
32.2
37.0
25.0
13.1
22.6
15.9
44.7
69.5
49.5
47.3
45.7
27.5
28.7
33.8
22.0
13.6
12.0
  5.7
53.7
59.9
49.9
54.3
50.6
24.7
25.2
41.5
23.6
13.0
  8.0
  5.7
63.8
63.8
59.1
57.8
57.2
34.3
32.0
31.9
21.8
14.1
  7.1
  5.5
17.6
21.7
25.6
31.0
43.3
55.4
  9.6
–
a
n.d. = no data.
Source: Compiled by authors from Raiffeisen, 2006, 2007, 2009. [Authors: why are entries in some
cells “n.d.,” in some cells blank, and in one cell “- - “?]
Domestic political forces were content to reap the electoral rewards of the credit-fueled
growth model—or “housing price Keynesianism (Bohle, 2009)—while the West European
member states of the EU benefited from the formation of a political consensus around and
commitment to the project of European integration across Central Europe (Bohle, 2010).
Consequently financial imbalances in ECE were interpreted as the temporary manifestation of
finance convergence rather than signals of imminent crisis. In January 2007, the World Bank
identified a series of macroeconomic imbalances, but found that the rapid growth of credit
“to a large degree reflects financial integration and deepening” and that “banking systems in
the region, which are dominated by Western European banks, appear to be strong and able to
withstand sizable potential shocks” (World Bank, 2007, p. 2). However, this view may have
been colored by the booming liquidity and asset values being also features of growth in North
America and Western Europe (Tiits et al., 2008, p. 80).
Whereas Nesvetailova and Palan (2008) have argued that the continental European banking system was a victim rather than a perpetrator of the international financial crisis, this
analysis suggests that the form of integration of some ECE countries into that system contributed to instability in the international financial system. Indeed, Gowan (2009) argues that the
entire European banking system was incorporated into what he terms the “New Wall Street
System.” The division of monetary and fiscal policy responsibility between independent central banks and governments resulted in macroeconomic instability. Whereas the conditionality attached to EU accession empowered central banks vis-à-vis governments, once accession
had been achieved there was less restraint on the exercise of expansionary fiscal policy by
20
EURASIAN GEOGRAPHY AND ECONOMICS
governments (Johnson, 2008, p. 84).14
Internationally, the extension of the continental banking industry to include ECE meant
it had to contend with a new and complex geography of credit that escaped conventional
surveillance by national regulators and IFIs and as well as with a variety of monetary regimes
that rendered financial management difficult (IMF, 2009a; Maechler and Ong 2009; p. 37).
West European banks’ pursuit of profits to enhance shareholder value precluded the existence
of buffers, such as a domestically owned banking system or interventionist state, which could
contain financial shocks. However, the enforced reliance on external credit from Western
banks (and in times of crisis the IMF) provided the U.S. and UK with leverage to orchestrate
the economic and political development of these countries in their own economic and political interests. Thus, the promotion of European–Atlantic integration in much of the ECE and
some of the FSU countries underpinned the wider finance-led growth regime centered on
Wall Street and London (Boyer, 2000; Gowan, 2009).
Gowan (2009) has argued that the current crisis is a structural outcome arising from
the nature of economic models pursued in the United States and Europe—financial dominance and concentration of financial capital15 based on continual leveraging of financial profit
through speculation, cheap credit, and the deliberate and vigorous financing of market bubbles (e.g., the housing bubble). In Europe, this “Atlantic system” articulated with the UK
economy and the financial dominance of London, but also with the European banking sector.
As Gowan (2009, p. 26) argues, the “whole EU-EMU project has encouraged banks to grow
too big for their national states to save them, while offering no alternative at EU or even
Eurozone level.”
The liberalization of the East European banking sector relied, then, on the internationalization of ownership of banking across the region, mainly by European banks. This was one
way in which West European banks were able to create new investment and credit opportunities by offering cheap credit to boost domestic consumption across ECE, which was experiencing burgeoning growth of housing costs as housing privatization was rolled out and
increasing levels of household debt as new credit instruments were introduced Stenning et al.,
2010a, 2010b). However, as a recent OECD (2009, p. 4) report has argued, “the credit crisis
will affect the economy directly as the foreign-owned banks are likely to tighten their lending standards given the downturn in the global credit cycle.” These developments are already
ending the upswing in house prices across the region, which have almost doubled since 2005.
In many ways, the internationalization of finance in ECE was symptomatic of the bleeding out
into the region of the wider “Atlantic model’ of short-term financialized growth. But it was
also connected to the implementation of (in many countries in ECE) a model of market-led
development focused on internationalization and liberalization stimulated by foreign investment (see Swain, 1998, 2002; Fisher et al., 2007; Smith and Rochovská, 2007, Stenning et
al., 2010a).
Outside of the new member states of the EU, domestic political instability also undermined macroeconomic policymaking. In Ukraine, for example, disputes between government and the President were transmitted into macroeconomic policymaking as the authorities were responsible, respectively, for fiscal and monetary policy (Mykhnenko
and Swain, 2010).
15
According to Gowan (2009, p. 10), the New Wall Street System “was dominated by just five investment banks,
holding over $4 trillion of assets, and able to call upon or move literally trillions more dollars from the institutions
behind them, such as the commercial banks, the money-market funds, pension funds, and so on.”
14
SMITH AND SWAIN
21
EXPORTING GOODS AND LABOR:
THE UNEVEN INTERNATIONALIZATION OF ECE AND FSU
In addition to the uneven internationalization of the finance and banking sectors in ECE
and the FSU, another key element of the model of development adopted across the postsocialist world was the significant re-orientation and Western internationalization of trade
after 1989. This internationalization was responsible for creating vulnerabilities across the
region to an economic crisis. Prior to the collapse of the Soviet system, countries across the
region were firmly integrated into the largely autarchic structures of the Council for Mutual
Economic Assistance (CMEA), which attempted to co-ordinate a cross-national division of
labor (Myant, 1993; Smith, 1998). Since 1989 in ECE and 1991 in the FSU, trade flows have
seen a dramatic re-orientation away from the state socialist dependencies on CMEA, although
there has been a general bifurcation of pan-regional trade structures that mirrors the pattern
of financial integration. On the one hand, most of the states of ECE have seen a significant
growth in trade with the European Union in the run-up to and since the enlargement of the
EU, characterized by Broadman (2005) as a “Euro-centric” model of trade integration. On the
other hand, a “Russia-centric” model has emerged focused largely on the CIS (ibid.).
The primary Europeanization of trade in ECE has involved these countries, with the
exception of the Czech Republic, sustaining significant trade deficits throughout much of
the 1990s and the 2000s (see Fig. 8, compliled from WTO, n.d.). In part, this is due to the
continuing reliance of these countries on Russia and other CIS states (despite the growth of
ECE-country exports to EU markets) for imports of crucial energy supplies—witnessed all
too readily in terms of the energy vulnerability manifest in the Russia–Ukraine oil and gas
crisis of 2008 (Bouzarovski, 2010). For example, between 12 and 30 percent of total imports
to those countries presented in Table 8 (compiled from WTO, n.d.) involved energy imports,
primarily from Russia. Equally, increasing trade deficits in ECE due to imports outstripping
export performance has been due to the rise of imports of manufacturing components to sustain increasing levels of export assembly production across ECE, as well as imports of consumer goods to fuel the consumption of Westernizing elites across the region. In an attempt to
sustain trade balances, albeit increasingly unsuccessfully, especially in Poland and Romania
(Fig. 8), the ECE countries became reliant upon export assembly production, a relationship
that has its roots in the 1980s development of EU outward processing trade (OPT) in selected
parts of ECE (Fröbel et al., 1981; Pellegrin, 2001; Begg et al., 2003; Smith, 2003; Pickles
et al., 2006; Pickles and Smith, 2010). Export assembly production was initially focused on
labor-intensive industries exporting to EU-15 markets,16 capitalizing in part on lower labor
costs in the region. However, more recently, capital-intensive assembly production, notably
in the automobiles sector, has become significant in several countries. As Broadman (2005,
p. 342) has argued, “Clothing (and to a lesser extent) furniture have been the quintessential
engines of export growth for many EU-817 countries during the initial stages of the transition,” accounting for “a considerable share of value added and manufacturing employment.”
Reliance on exports has created increasing dependency on markets in the EU-15 and OECD
countries which, during the 2008–2009 economic crisis, have contracted at significant rates,
leading to a decline in exports,18 further undermining trade balances. For example, Polish
I.e., the “western” member countries of the EU prior to the accession of the EU-10 in 2004.
I.e., the eight ECE countries of the EU-10 (the EU-10, excluding Malta and Cyprus).
18
For example, total OECD imports fell by US$171 billion in the fourth quarter of 2008 and by $95 billion in the first
quarter of 2009 (OECD, n.d.).
16
17
22
EURASIAN GEOGRAPHY AND ECONOMICS
Table 8. Structure of Trade in Selected ECE countries, 1995–2007 (in percent of total)
Country
Product
1995
Exports
2000
2005
2007
1995
Imports
2000
2005
2007
Bulgaria Agricultural
Fuels and mining
Manufacturing
25
15
60
13
26
61
13
26
62
10
33
57
17
 0
83
 9
14
77
 7
14
79
 7
29
64
Hungary Agricultural
Fuels and mining
Manufacturing
24
 8
68
 9
 4
87
 7
 4
89
 7
 5
88
 9
16
75
 4
10
86
 6
 9
85
 5
12
82
Poland
Agricultural
Fuels and mining
Manufacturing
13
15
71
10
10
80
11
 9
80
11
 8
81
14
14
83
 9
15
84
 9
16
83
 9
15
83
Russia
Agricultural
Fuels and mining
Manufacturing
 6
55
39
 7
69
24
 6
73
21
 7
74
20
30
 7
63
21
 9
70
15
 4
81
12
 4
84
Slovakia Agricultural
Fuels and mining
Manufacturing
10
 8
82
 5
11
84
 6
 9
85
 5
 8
88
12
19
70
 7
21
71
 7
17
76
 6
14
80
11
20
69
14
17
69
14
12
74
 8
50
42
 9
34
58
 8
30
62
Ukraine Agricultural
Fuels and mining
Manufacturing
exports fell by $4.6 billion in the fourth quarter of 2008 and by $0.9 billion in the first quarter
of 2009; Slovak exports fell by $1.3 and $0.7 billion over the same period; and Hungarian
exports declined by $2.3 and $0.9 billion.19
Exposure to export dependency on EU-15 markets underpinned the model of export-led
development in ECE throughout the 1990s and 2000s. However, high levels of international
economic openness created vulnerability to economic decline in core markets during the economic crisis, despite the fact that the ECE region has seen quite dramatic shifts in the forms
of export-led development into higher value products. With its origins in the late 1970s and
early 1980s prior to the collapse of state socialism, export assembly manufacturing in laborintensive products such as clothing, shoes and furniture largely (although not entirely) led
the emerging forms of integration with EU markets in the early 1990s (Fröbel et al., 1981).
Encouraged by the European Commission, under its regulations on OPT, as an attempt to
ensure the continued competitiveness of labor-intensive industries in Europe in the face of
competitive “threats” from elsewhere in the global economy, these east–west trade relations
in Europe solidified a set of relationships that underpinned the effort to sustain industrial production as economies across the region declined during the economic crisis of the early years
of post-socialism (Dunford, 1998; Smith et al., 2005, Pickles et al., 2006).
Over time, and as labor costs increased across ECE, national economies shifted into
positive economic growth, and expectations over the benefits of EU enlargement bolstered
19
The figures cited here for declines in exports to the OECD countries were calculated from OECD online international trade statistics.
SMITH AND SWAIN
23
Fig. 8. Trade balance of selected ECE countries, 1980–2008.
demands for increased wages, this model of export assembly became more vulnerable. In the
context of clothing exports—of which over 80 percent were accounted for by OPT production
relations in the 1990s (Begg et al., 2003; Pickles and Smith, 2010)—further competitive pressures were felt in the run-up to the 2005 liberalization of global trade in textiles and clothing
under the World Trade Organization’s phase-out of quotas (Curran, 2008a, 2008b; Pickles
and Smith, 2010). One result has been the emergence of significant shifts in the production of
24
EURASIAN GEOGRAPHY AND ECONOMICS
labor-intensive products both within countries and between higher and lower cost economies
in the region (Smith et al., 2008; Pickles and Smith, 2010).
These shifts and the consequent decline of labor-intensive production in the main new
EU member-state economies has further intensified during the current economic crisis, as
firms try to find solutions (with increasing difficulty) to manage increasing cost pressure,
increasing global competition, and declining demand in core EU-15 export markets. The
result during the crisis has been—in some contexts—an almost complete collapse of export
assembly production, the bankruptcy of firms, and a decimation of the labor force that relied
on employment in this sector—often in regions with already high levels of unemployment.
For example, in the Slovak Republic, which had at least two significant regional concentrations of export clothing production in the late 1990s, employment in this sector accounted
for between 12 and 15 percent of total manufacturing employment (Smith, 2003). Since
2005, in the context of increasing global competition resulting from the phase out of quota­constrained trade and the more recent decline of export markets in the EU-15, demand has
fallen and employment in key plants in the industry has dropped by over 3,000 employees.
During the current economic crisis, production has been estimated to have fallen by 36 percent in textiles and clothing and exports to the main EU-15 markets declined by 7 percent
between 2007 and 2008 and by 18 percent in the first five months of 2009 (month-on-month
with 2008; Smith and Pickles, 2009).20
The collapse of EU-15 export markets in sectors such as clothing has affected most of the
other key exporting countries as well. For example, Bulgarian clothing exports to the EU-15
fell by 6 percent between 2007 and 2008 and by 19 percent in the first five months of 2009
(month-on-month with 2008). Similarly, the clothing exports from the largest exporter in the
region, Romania, fell by 11 percent between 2007 and 2008 and by 21 percent in the first
five months of 2009 (month-on-month with 2008). What these transformations mean for the
sustainability of labor-intensive production across ECE remains an open question, but reliance on EU-15 export markets has exposed producers across the region to what has become
a dramatic demand-side decline.
Equally troubling has been a significant decline in other more capital intensive, higher
value export sectors into which ECE countries had begun to diversify. Invariably, such capital-intensive production is led by producer-driven networks in which, according to Broadman
(2005, p. 348), “production fragmentation in vertically integrated sectors” is central, differing
“in several important respects from traditional, buyer-driven global value chains” and including “two-way flows of parts and components for further processing and development across
firms located in various countries.” Producer-driven networks accounted for about one-fifth
of total exports by the late 1990s for many of the more advanced economies of the region,
and have become even more important since then. As Broadman (ibid., p. 342) has argued,
“buyer driven network exports served as a major vehicle linking them to external markets.
The second stage has been participation in producer-driven networks.”
Although with origins in the early 1990s and before (Sadler and Swain 1994), this [Author:
What does the word “this” mean? Participation in producer-driven networks?] enabled
several countries across the region to move into higher value and more capital intensive production networks—notably automobile and IT production. These networks were invariably
based on increasing levels of inward direct investment, as major component producers and
assembly firms began to move into the region (Sadler and Swain, 1994; Pavlínek and Smith,
Data on clothing production are for February 2009 and derived from ŠÚSR (2009); trade data are extracted from
the Comext trade database (Eurostat, n.d.)..
20
SMITH AND SWAIN
25
1998; Smith and Ferenčíkova, 1998; Swain, 1998; Pavlínek, 2002a, 2002b, 2003, 2008; Pickles and Smith, 2005; Pavlínek et al., 2009; Pavlínek and Ženka, 2009). However, notably in
the case of Slovakia but also elsewhere, production of automobiles, which had become the
mainstay of national exports by the early part of the 21st century, has been falling rapidly
during the economic crisis.21 The overall reliance on export production during the current
economic crisis exposed the countries of the region to the rapid transmission of demand-side
decline in core economies, particularly in the EU-15. As a recent economic survey of the
Slovak Republic has suggested (OECD, 2009, p. 3), the “economy’s specialization in car
manufacturing, which has contributed to its past high growth, is a downside risk in the current
circumstances” of global economic crisis. Indeed, there are “already signs that the automobile
industry will be particularly badly hit by the global slowdown” (ibid., pp. 3–4).
The export of manufactured exports has not been the only “export” model pursued in the
region that has created vulnerabilities during the economic crisis. Given the emergence by
the mid-1990s of high levels of structural long-term and youth unemployment and regional
uneven development in the new EU member states, the export of labor also became a way
(in part) to cope with these structural imbalances in ECE economies. Indeed, A8 migration,22
as it has become widely known, has been critical to the establishment of pan-European labor
markets after the 2004 enlargement, despite the attempts of EU-15 governments to curb the
volume of migrant labor flows.23
The growth of migrant labor arose in part due to specific labor market demand in EU-15
member states, with many migrant workers providing cheap labor to fill gaps in the labor market.24 But East–West labor migration also was built on earlier rounds of regulated migration
of, for example, East European au pairs. This form of migration articulated with the domestic
demands of households with high disposable incomes (e.g., in the UK( who came to rely on
migrant labor for personal services.25 In part, the export of labor from East to West relied upon
the development of demand among adult households in Western Europe working in higherend professional and financial services (in part tied to the dynamic growth of financial sector so negatively effected by the economic crisis). However, the decline in East–West labor
flows since the economic crisis26 reflects in part declining demand in West European labor
markets and the reduction of disposable income to finance domestic and household labor (in
part connected to the loss of jobs associated with the economic crisis in Western Europe).
In addition, however, while migrant labor enabled households involved in ECE to sustain
themselves through remittances, the diminishing value of currencies such as the pound sterling, the appreciation of several East European currencies, and the more recent collapse of
the European economy have meant that demand for labor has dropped during the economic
crisis, with many migrants returning in the face of tightening labor markets in both the EU-15
Output in Slovakia fell by 35 percent during the first 10 months of 2009 (ŠÚSR, 2009).
A8 refers to the “Accession 8,” the eight former communist countries that became EU member states in 2004.
23
For example, between 2004 and 2007, the British government registered 766,000 applications from migrants from
the A8 countries through its Worker Registration Scheme (WRS); 66 percent of total applications were by Polish
migrants, with Slovaks comprising a further 10 percent. [Authors: Please indicate source and add reference.]
24
In the UK, for example, concentrations of A8 migrant worker employment have been found in food harvesting,
coach [Authors: “coach” = “motorbus?] driving, processing industries, and manufacturing (Stenning and Dawley,
2009).
25
For example, see Perrons et al. (2010) on the migrant handy-man phenomenon and Bahna (2005) on the au pair
phenomenon.
26
This has led in part to the collapse of some of the transportation infrastructure that underpinned migrant labor
flows—most notably the high-profile bankruptcy of low-cost Central European airlines such as SkyEurope.
21
22
26
EURASIAN GEOGRAPHY AND ECONOMICS
and the new member states.
In both cases of manufacturing exports and the export of labor, the economic crisis has
revealed the fragility of the ECE country’s dependency on West European markets for their
recent economic growth and their attempt to control high levels of structural unemployment
through out-migration. This dependency—a hallmark of the model of development pursued
across the region—created a vulnerability to the economic downturn in core EU markets that
has accompanied the crisis, with the result that export markets are contracting rapidly, labor
markets are tightening, and workers are losing jobs or seeing a reduction in hours across ECE.
This is occurring at a time when the continuing export of, and increasing costs of energy from,
Russia and other CIS states has increased both the trade and balance of payments deficits in
the region. If trade and labor mobility created vulnerabilities to economic crisis, they were
also, however, part of a geopolitically uneven integration of ECE and the FSU into the wider
European system dominated by the EU. The crisis creates the likelihood of a deepening of
this unevenness, as the EU struggles to manage the desire of further enlargement from states
across the region. It is to this geopolitics of the crisis that we now turn.
THE GEO-ECONOMICS AND GEOPOLITICS OF CRISIS AND BEYOND
In this section we consider a wider set of questions concerning the ways in which the
economic crisis can be seen as the latest element in the shifting geo-economic landscape of
ECE and the FSU, and how this articulates with the wider geopolitical elements of the new
and expanding European Union. We ask what the crisis is doing to the reconfiguration of geoeconomic and geopolitical relations in the “new Europe,” especially in relation to the role of
the European Neighborhood Policy (ENP) and the establishment of new zones of “insiders”
(Euro-zone members, new EU members), “partial outsiders’” (Ukraine and the critical distancing of others through the forms of “shallow integration” witnessed in the ENP), and those
kept at a greater distance (such as Russia).
Of course, EU enlargement and the preparations leading up to it in 2004 consolidated
forms of market fundamentalism and international integration into EU market structures
through the process of accession (Gowan, 1995, Smith, 2002); we have argued above that
these processes led to the creation of vulnerabilities in the development models pursued across
the region. Yet the enlargement of the EU in 2004, and then further in 2007, created a situation
in which the EU needed to manage pressures from other former state socialist governments
wishing to become members. Enlargement created a group of European former state socialist
“insiders,” with countries such as Slovenia and Slovakia pursuing vigorous programs to join
the Euro-zone in 2007 and 2009, respectively.27
In the context of the 2004 enlargement of the EU and increasing pressure for even further rounds of enlargement from other bordering states, the EU devised an alternative pathway, exemplified by the European Neighborhood Policy. Effectively the ENP is an attempt
to bring closer (both economically and geopolitically) the states surrounding the enlarged
EU, but to do so without accession as a likely outcome.28 This process of partial integration
has, however, created new forms of uneven integration across Europe between “insiders” and
“outsiders” that are likely to be further consolidated in the context of the economic crisis. For
However, other new member states, such as Hungary, the Czech Republic, and Poland, were much less enthusiastic
about adopting the euro (Becker, 2007).
28
This is despite the desires of political elements within some states, such as Ukraine, for EU membership (see Sellar
and Pickles, 2002).
27
SMITH AND SWAIN
27
example, then–President of the European Commission Romano Prodi described the goal of
the ENP as “seeking to create a ‘ring of friends’ around the EU by offering close cooperation
from political dialogue to economic integration.” He believed that the initiative would “allow
neighbours to participate in major EU policies and programmes, and ultimately in the EU’s
single market.” In this way, he opined, “ENP participants … [would be] expected to form a
relationship with the EU similar to that of the European Economic Area (EEA) members,
such as Norway, Iceland, and Liechtenstein” (see Milcher and Slay, 2005, p. 4).
The ENP is the major part of a series of pan-regional initiatives that also include the formal negotiations over accession with such states as Turkey and Croatia, the Stabilization and
Association Process connected with countries in the western Balkans with the aim of achieving eventual accession,29 and the framework of the “Common European Economic Space” in
which Russia—not part of the ENP—is included (see Milcher and Slay, 2005).30 However, the
ENP is explicitly not about EU accession; rather it is conceived as an alternative route to closer
association and to bringing the neighboring states into closer economic alignment with the
EU single market without giving them a seat at the table in Brussels. Yet, it does involve elements of internationalization and liberalization that have been at the heart of the development
models described above that created vulnerabilities across the region to the global economic
crisis. Aliboni (2005, p. 1) has argued that the ENP is closely articulated with the European
Security Strategy (see below), which reiterates the importance of geography “[e]ven in an
era of globalization” and underscores the importance of well-governed countries on the EU’s
borders. As Emerson et al (2007, [Authors: Please add page numbers] ) have argued, there
is a discernable EU interest in being surrounded by “a ring of well-governed states.” In the
European Security Strategy (2003, p. 7), it is similarly noted that “It is in the European interest that countries on our borders are well-governed,” and that “Neighbours who are engaged
in violent conflict, weak states where organized crime flourishes, dysfunctional societies or
exploding population growth on its borders” all constitute problems for Europe.
Thus, Milcher and Slay (2005, p. 5) have argued that, “the ENP seeks to offer its neighbours the kind of ‘market access for reform’ grand bargain that was instrumental in the
­dramatic improvements in governance institutions that the new member states experienced
during their accession processes of the 1990s.” However, they go on to argue that the experience of the EU-10 “suggests that the largest benefits of convergence towards European
standards can come in the form of … FDI that can be attracted by geographic proximity and
preferential access to the single market” (ibid.) Although there was undoubtedly some “convergence,” it is also clear that the nature of that convergence, underpinned by a particular
model of development, did lead to a profound vulnerability to the global economic crisis, due
to the form of internationalization and market governance pursued. This suggests that the role
of the ENP during the economic crisis and beyond will be one way in which the EU manages
the critical distancing of non-member states, but will also likely consolidate the very forms
of dependency among those states on the fringes of the EU that created vulnerabilities to the
downturn across the new member states.
The ENP is part of a process of “controlled distancing” of parts of the former Soviet
Union, Turkey, and North Africa. Control is sought in the interests of EU member states
These countries include Serbia and Montenegro, Macedonia, Albania, and Bosnia-Herzegovina. For the case of the
latter, see Ó Tuathail (2005, esp. pp. 56–59); for Southeast Europe more generally, see Dahlman (2006).
30
The ENP also involves 10 political entities in North Africa and the Middle East (European Commission, 2009b). In
2009, the Eastern Partnership element of the ENP was established to strengthen bilateral connections with Armenia,
Azerbaijan, Belarus, Georgia, Moldova, and Ukraine.
29
28
EURASIAN GEOGRAPHY AND ECONOMICS
through security and seeking to gain the benefits of market access and access to lower-cost
production sites. Distancing is achieved through making it clear that the ENP is not about
accession, but is an explicit alternative to further enlargement. Emerson et al. (2007) have
observed the growing differentiation of the EU’s neighboring states in relation to a group of
“willing” (such as Ukraine, Moldova, Georgia, and Armenia) and “passive” partners (such as
Azerbaijan), alongside “reluctant” (Russia)31 and “excluded” (Belarus)32 partners, leading to
a new, uneven landscape of pan-European geopolitical integration. The extent to which adoption of EU-dominated integration processes among the “willing” states involved in the ENP
will lead to the further transmission of precisely the conditions (as we have seen) that created
vulnerabilities among the new member states during the crisis, however, remains a critically
unknown question. If the EU once again plays the role of an “external anchor” (Bohle, 2009)
that aligns political-economies and underpins net inflows of capital (resulting in deep financial integration but without the political powers needed to underwrite such a system), then
“shallow integration” may simply displace, extend, and recreate the conditions that led to the
crisis in the region.
In any case, the economic crisis has also established geopolitical and geo-economic tensions within the EU. Latvia’s 2009 financial crisis and near full-scale banking sector collapse
occurred on the back of the collapse of a euro-driven housing market bubble that threatened
high levels of property repossession and large-scale financial losses for the main Swedish
banks that own large stakes in the Latvian mortgage market (Bohle, 2009, 2010). This was
despite “the government [having had] … already raised taxes, slashed public spending by
11 percent of GDP and … [embarked] on further savings” to cope with the economic crisis,
which have “meant public sector wage cuts of up to 40 percent and scores of schools and
hospitals being closed” (Traynor, 2009); Latvia’s economy was projected to contract by 18
percent in 2009. Tensions have mounted between the Swedish state and Latvia over the possible introduction of new rules to reduce the liabilities of Latvian mortgage holders to foreign
banks, and a banking collapse in that country would likely have significant spillover effects
across the Baltic States.
From the perspective of IFIs, as the EBRD’s President Thomas Mirow (2009) has recently
acknowledged, “the current economic situation has pushed the EBRD to its limits.” The quest
for additional capitalization to sustain its bailout of the economies of ECE and the FSU will no
doubt reveal further tensions within the member-state shareholders of the Bank in their willingness to provide additional funding to manage the crisis. The EBRD is already a key player
in several of the region’s banks, having mirrored the government-led bailouts seen in Western
Europe and the United States. In 2009 its investment in the region is to increase by 52 percent
compared to 2008, with a commitment to spend €8 billion (EBRD, 2009a). The extent to which
institutions such as the EBRD will be able to sustain this involvement and to manage the tensions between states that economic crisis engenders, remains an open, critical question.
CONCLUSION
In this paper, we have argued that the global economic and financial crisis was not simply one that had its origins in the Atlantic system of financialized capitalism. This particular
model of development had been extended to ECE and (parts of) the FSU and provided a
Russia–EU relations are managed through the mechanism of a separate ”Strategic Partnership.”
Belarus is very marginally involved in the ENP and Eastern Partnership, although some recent progress on human
rights suggests that there may be a space for deeper enlargement.
31
32
SMITH AND SWAIN
29
way in which credit markets were articulated with high rates of borrowing in the region,
deepening indebtedness and property bubbles that in the short-term generated high economic
growth rates. When the crisis enveloped the Atlantic system it rapidly disseminated to ECE
and led to a nationally and regionally uneven experience of economic decline, reflecting earlier forms of uneven internationalization of the financial sector.33 The financial vulnerabilities
were compounded by a second feature of the transition model pursued across the region—the
deep integration into West European export markets, which have contracted considerably during the crisis with dramatic implications for regions and industry across ECE and the FSU.
The aftermath of the crisis is likely to lead to higher costs of financing and lower inflows of
capital, which will in turn result in greater economic volatility, lower long-term growth, and
slower convergence with West European countries (IMF, 2009a, p. 56).
But key players are still arguing for a continuation of the globally integrated, financialized
model of high economic growth that characterized the region through much of the 2000s. For
example, questions were raised in the most recent EBRD Transition Report (2009c) about the
growth model both for countries in ECE and Southeast Europe, where rapid expansion was
fueled by financial integration, and for commodity-rich countries in the FSU whose growth
has depended on income from natural resource exports. The Report34 recognized that “financial integration has brought disadvantages, by encouraging credit booms, over-borrowing,
and a trend toward foreign currency borrowing,” but that “this region has benefited from high
economic growth. More importantly, when the crisis was finally in full flow the presence
of foreign banks and the resultant depth of the financial systems played a crucial stabilising
role.” Consequently, the Report argues that “it is clear that attempting to reverse financial
integration would be the wrong conclusion to draw from the crisis. The region would deprive
itself of a source of growth.”
However, the fact that foreign banks have not divested from the region may in fact signal
their current exposure to non-performing loans and their need to wait until those negative
positions become positive. In this way, the creditor-debtor model of western control over ECE
and parts of the FSU may temporarily or even permanently cease or even reverse. Predatory
lending, especially in foreign currency, has resulted in captive banking groups whose assets
in the region are relatively illiquid and cannot currently be unwound without recognizing
large losses. Their exposure to suspect debt resulted in foreign banks, their home regulators,
and the IFIs lobbying for support for host banking systems to prevent the devaluation of West
European and North American banking assets. Ideally, this support was intended to avoid currency devaluation indefinitely or at least until negative positions had become positive. Where
devaluation was unavoidable support was intended to prevent system-wide banking crises
that could affect foreign banking groups’ assets and profitability. The logical conclusion of
these forms of crisis management and resolution was for the new EU member states to adopt
the euro. Whereas the IMF supported early adoption of the euro, perhaps even unilaterally,
for countries such as the Baltic republics, the ECB opposed it, fearing it would undermine
confidence in the single currency (Wagstyl and Wiesmann, 2009). [Authors: Wagstyl and
Wiesmann, 2009 is not in the references list. Please supply the missing reference]
In this way, financially integrated debtor ECE countries had become locked-in to the
West European growth trajectory. In contrast, the creditor countries in parts of the FSU had
become even more dependent on commodity prices and, given the rapid switching of capital
For a review of earlier integrative impulses in the European economy in response to various crisis situations, see
Jones et al. (2010) in this issue.
34
These quotations are taken from the Report’s press release (EBRD, 2009b).
33
30
EURASIAN GEOGRAPHY AND ECONOMICS
flows, risked enforced devaluation. [Authors: the preceding sentence as originally worded
was difficult to understand. Please check the wording of the edited version] A resilient
and robust development model in Russia, which would generate positive spillover effects in
the poorer, non-financially integrated parts of the FSU, depended on diversifying the economy. More generally, however, political and economic elites across the region who have been
undermined by the crisis are likely to conclude that public policy oriented toward retaining or
cultivating nationally owned industrial and commercial sectors and fostering national capitalisms more broadly will earn economic and political dividends. Although such economic
nationalism risks cultivating political nationalism and will be widely challenged by centers
of economic power outside the region, even the EBRD recognized that further development
of local capital markets would reduce internal and external financial imbalances and act as a
buffer constraining the spread of external financial crises (EBRD, 2009c, p. vii).
Ultimately, the crisis reveals the interdependencies that exist between models of development within Europe and beyond. It also highlights the weakness of a banking system (and
for some countries a common currency) that developed without mechanisms for the state to
intervene and underwrite the system (Gowan, 2009)—that is, until the crisis threatened the
collapse of the entire system, at which point the state in Western Europe and the U.S. became
critical in injecting huge sums of capital to bail out the financial system. In ECE and the
FSU, the capacity of the state to replicate such bailouts was limited and recourse was made to
intervention by the IFIs and the European Commission. More broadly, the crisis reinforces the
division of Europe between the countries that are already or will become members of the EU
and those that will remain excluded from it. This is likely to be accompanied by an extension
of Russian capital to neighboring countries, raising the specter of two regional capitalisms in
Europe. However, even within the EU there is a contradiction between convergence toward a
“single market” and the evident requirement for national-scale interventions to prevent financial imbalances. The resolution of this contradiction is likely to involve a reorganization and
extension of state power in which the EU plays a greater role in financial supervision that is
organized around the surveillance of the financial markets where foreign banks operate rather
than their country of origin.
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