Europe Economy

'Circuit of Panic' in Euro Zone Could Hinder Eastern Europe: Economist

Concerns over investment in Central and Eastern Europe have grown as a solution to the problem of sovereign debt in the peripheral euro zone has eluded policymakers and global growth has slowed.

Castle Square in Warsaw old town, 30th July 2010. (Photo by Luis Davilla/Cover/Getty Images)
Luis Davilla

Erik Berglof, chief economist at the European Bank for Reconstruction and Development, which invests primarily in the private sector in Central and Eastern Europe told CNBC vulnerabilities in the region's banking sector, combined with "panic" over debt in the euro zone, threatened the growth potential of the region.

"I think everyone is focusing now on finding a way of breaking the circuit of panic in the euro zone, in that environment it's very difficult to focus on anything else," Berglof said.

Ahead of a crucial vote in the German Reichstag on the implementation of the European Financial Stability Facility (EFSF), Berglof said failure to find a solution, as the markets were predicting, would be potentially disastrous for development in eastern Europe.

"I think it would be a very, very bad scenario and I think everyone is now focused on trying to find the solution, there are the elements in place, but there are still huge implementation risks," he explained.

Transaction Tax Not the Answer

One such element includes the introduction of a financial transaction tax, which President of the European Commission, Jose Manuel Barroso proposed on Wednesday.

Barroso announced plans for a tax of between 0.01 percent to 0.1 percent to be levied on trades in bonds and shares and more complex derivatives to raise around $75 billion a year to boost depleted government coffers.

Martin Buhl CEO of the CEE Stock Exchange Group, which is comprised of the stock exchanges of Vienna, Prague, Ljubljana and Budapest, described the proposals as "a very, very bad idea" unless expanded to include all kinds of financial transactions and adopted by countries outside the EU.

"With regard to the financial transaction tax it has to be fulfilling three criteria. The first one, and this is probably the most tricky one, it has to be all over the place which means not only in Europe it has also to be in place in the US, in other parts of the world," he told CNBC.

"The second one, it has to be on all products, we cannot just focus on one or two products, it has to include also FX, it has to include all derivatives business and so on," he said.

"And thirdly it has to cover all venues which means not only stock exchanges, it has to cover the OTC (over-the-counter) space so it really makes sense only if it is a real possibility to have everything," Buhl added. 

Buhl conceded the crisis in the euro zone was dampening the outlook in Eastern Europe, and the IMF revised the region's growth forecast downwards in its September 2011 World Economic Outlook by 1.5 percent to 4.3 percent.

However, Buhl pointed out that the CEE region, excluding the Commonwealth of Independent States (CIS) was still expected to grow by considerably more than the euro zone, which the IMF predicts will expand by just 1.6 percent in 2011.

"It is dampening the outlook, otherwise we would be growing far stronger," he said.

"The main problem that we've had is that the money inflow both from direct investments, but also indirect investments has been cut down significantly through the crisis because the money was needed elsewhere, so there's a lot of things that still need to be done."