Facebook Blogging

Edward Hugh has a lively and enjoyable Facebook community where he publishes frequent breaking news economics links and short updates. If you would like to receive these updates on a regular basis and join the debate please invite Edward as a friend by clicking the Facebook link at the top of the right sidebar.

Tuesday, December 25, 2007

Merry Xmas and A Happy New Year

Well, a Merry Xmas and a Happy New Year to all my readers. Thank you for taking the time and trouble to pass-by. This blog will now - failing major and surprising new developments in the global economy - be offline till the end of the first week in January, or till after the festival of Los Reyes Magos in Spain (for those of you who know what this is all about). Come to think of it, maybe this is just what our ever hopeful central bankers are in need of even as I write - some surprise presents from the three wise men - but I fear that this year if these worthy gentlemen do somehow show at the next G7 meet, the star in the east which draws them will not be the one described in the traditional texts, but in all likelihood the rising star of India.

Credit crunch, did someone use the expression credit crunch?

Monday, December 17, 2007

The Polish Economy: An Unlimited Need For People?

The gentleman in the photo is Konrad Jaskola, Chief Executive Officer of Polimex-Mostostal SA, Poland's biggest construction company, and according to this article in Bloomberg, he has just one message for us all: "I have an unlimited need for people".

The issue arising is that Joskola has plans to hire "several thousand" new workers next year to meet demand for new bridges and factories, but he has a problem, and the problem is that due to Poland's growing labour shortages he may have difficulty finding them. Poland's economy has been growing strongly in recent quarters, although not as strongly, it should be noted, in some of the more evidently "overheating" economies like the Baltics. Poland's economy expanded an annual 6.4 percent in the third quarter of 2007, following 6.7 percent growth in the second quarter and 6.8 percent in the first one, according to data released by the Warsaw-based Central Statistical Office at the end of November.

This strong growth rate is partly fueled by construction activity and partly by strong consumer demand for retail items like cars and washing machines. Construction in Poland rose 20 percent in the first nine months of 2007, and as can be seen in the chart below - which offers a breakdown of Polish GDP growth by components, construction has been playing a very important part in the process. The thing is, however, that construction activity is pretty labour intensive.

According to Joskola, Polimex needs to offer higher salaries across the board, to engineers and managers, and to on-the-ground site workers, as Poland's skilled workers steadily move abroad (like all that hedge fund money which is flowing in the opposite direction) in search of higher yield. As a result local competition for workers increases, and wages start strong upward climb. Polimex has raised wages by 11 percent over the last 12 months and plans to raise them them by a further 10 percent next year.

The company, which is a "recycled" formerly state-owned machinery supplier, established to drive Poland's post-World War II reconstruction effort, currently plans to spend as much as 200 million zloty on acquisitions next year, in order to add workers and production capacity. I imagine some, at least, of those acquisitions will have to be of workers coming from outside Poland.

Inflation On An Upward Path

Meantime Polish inflation accelerated to the upper end of central bank's target range in November on the back of higher food and oil prices, meaning policy makers at the central bank may be forced to raise interest rates again in the coming months, in so doing possibly pushing up the value of the zloty, and attracting even more funds in search of even more workers to put to work.

Polish inflation rate rose to 3.6 an annual percent in November from 3 percent in October, the Central Statistical Office reported today in Warsaw. Consumer prices gained a monthly 0.7 percent after rising 0.6 percent in the previous month. Food prices grew an annual 7.2 percent 1.3 percent from the previous month, while fuel prices soared 13.2 percent from November 2006 and 2.5 percent from last month

As Unemployment Continues To Fall

The unemployment rate fell for the ninth consecutive month in October to 11.3 percent from 11.6 percent in September, the office said in a separate report today. Earlier this month, the office said that average corporate wages advanced an annual 11 percent in October and employment grew a record 5 percent from the year before.

And Wages Continue To Rise

As I say, inflation in Poland is also being fed by a 10 percent average wage growth and record low unemployment this year. In fact Polish average corporate wages advanced in November at the fastest pace in more than seven years, suggesting that the very rapid economic growth and large scale out-migration of key age group workers may be squeezing the labour market more than people imagined, thus provoking the sharp rise in inflation. Wages rose at an annual 12 percent rate (and 4.8 percent from a month earlier) to 3,092.01 zloty, according to the Warsaw-based Central Statistical Office earlier this week.

While Remittances Continue to Flow in Strongly

Remittances from abroad, mostly by taking advantage of free movement of labor within the European Union, are currently estimated (by the Polish National Bank) to be worth almost 2.5% of the gross domestic product of 250 billion euros. Since the United Kingdom opened its labor market to Poles three years ago, at least half a million Poles have settled in Britain.

Marcin Korolec, under-secretary at Poland's ministry of economics is quoted as saying that "the statistics show that the transfer from Polish people working abroad is something like 6 billion euros a year....Obviously this is a huge amount of capital, a huge amount of flow. It has an impact on internal consumption and internal growth."

All of Which Produces A Rapid Rise in Sales

Polish October retail continued their rapid rate of annual increase adding to evidence that economic growth remains strong despite four interest rate increases from the Central Bank so far this year. Retail sales rose an inflation corrected 16.3% in October over October 2006, this was up from a 12.2% rise in September compared with 14.2 percent in September, according to the Warsaw-based statistics office today.

The growth which is driven by sales of vehicles (which rose 42% year on year) and sales furniture and household appliances (a 21.9% annual rate of increase) - confirms the impression that consumer demand is being bolstered by falling unemployment, which dipped to an 8 1/2-year low, higher wages, which last rose the most in seven years last month, and a steady and economically significant inward flow of remittances.

Monetary Policy in A Bind?

The central bank lifted the seven-day reference rate a quarter-point to 5 percent only last month, and this was the fourth increase since April, when the key rate was 4 percent. So as we can see, at this point of time , and against all traditional expectation, monetary tightening may actually be having the perverse effect of accelerating the economy.

At the same time the zloty continues its rise, trading at 3.58 to the euro after the release of this weeks wages data, holding near its highest in five and a half years.

So as the Monetary Council begins its 2 day meeting for December today, we can see that there are some difficult decisions to take. Members of the council have already made public some of their divergences, with policy maker Marian Noga having taken the view that "The sooner we have the hike, the better, as preventive action is cheaper than boosting rates to chase down inflation", while Council member Miroslaw Pietrewicz takes the view that Poland's central bank should delay raising the benchmark interest rate until policy makers have had time to assess whether the four increases already made so far this year have been sufficient to bring inflation into check in the mid term.

What this dispute is a reflection of are the serious issues which arise concerning the actual ability of conventional monetary policy to work in a situation like the one facing Poland, since raising interest rates may just as easily stoke up more inflation - as we have seen in Australia and New Zealand, and to some extent in China - by attracting more investment funds into the country. This issue became apparent when the zloty also gained after a central-bank policy maker Marian Noga said the interest rate may have to rise as much as three-quarters of a percentage point before the end of 2008 to ward off inflation. Normally, an impending rise in inflation and a monetary tightening process (which reduces growth) would be considered to weaken and not strengthen a currency. So what happens next? Well this is just what we don't know, since we have never been here before. Clearly these economies will continue accelerating till the day they can't. And after that, well we will have to wait till we get there to actually see. What is happening in Hungary may give us some clues, and what happens next in the Baltics will definitely provide another of the missing links. Meantime we are in "wait and see" mode I feel. And behind Poland, roaring down the track come Russia and Ukraine, remember.

Poland Wages November 2007

Polish average corporate wages advanced in November at the fastest pace in more than seven years, suggesting very rapid economic growth and large scale out migration of key age group workers may be squeezing the labour market more than people imagined, and provoking a sharp rise in inflation. Wages rose at an annual 12 percent rate (and 4.8 percent from a month earlier) to 3,092.01 zloty, according to the Warsaw-based Central Statistical Office earlier today.

The central bank-led Monetary Policy Council last month raised its key seven-day reference rate for a fourth time this year in an attempt to contain inflation. The November inflation rate rose to 3.6 percent, above the upper end of the central bank's target range of 1.5-2.5 percent. The Monetary Policy Council will start its monthly two-day meeting tomorrow, but the bank is in something of a double bind here, since raising interest rates will only attract more capital inflows in the short term, and more capital is not what Poland needs, since it is this capital looking for people to employ that is provoking the overheating, in Poland and across the EU 10.

Employment in the private sectors also grew by 5 percent from November 2006, rising 0.3 percent on the month to a new total of 5.3 million. The zloty traded at 3.618 per euro at 2:40 p.m. today, unchanged from before the report and from Friday.

Wednesday, December 5, 2007

The Rise and Rise of the Zloty

The Polish zloty gained again today, rising a 5 1/2-year high against the euro as risk appetite improved and investors bet the interest-rate difference with the U.S. will widen. The zloty, which has been the best performer in a group of 26 emerging-market currencies, has gained 6.2 percent since April, when the central bank began raising its reference rate in four quarter point stages to its current 5 percent level . Federal Reserve Vice Chairman Donald Kohn has recently acknowledged the threat to US consumer spending which could result from a reduced access to credit, stoking expectations that the Fed will lower interest rates for a third straight time on Dec. 11.

The zloty rose as much as 0.2 percent to 3.6036 per euro today, the highest since May 2002, and was at 3.6070 by 11:31 a.m. in Warsaw, from 3.6121 late yesterday. All of this raises important questions about the actual ability of conventional monetary policy to work in Poland, since raising rates may just as easily stoke up more inflation - as we have seen in Australia and New Zealand, and to some extent in China - by attracting more investment funds into the country. This issue became apparent when the zloty also gained after a central-bank policy maker Marian Noga said the interest rate may have to rise as much as three-quarters of a percentage point before the end of 2008 to ward off inflation. Normally, an impending rise in inflation and a monetary tightening process (which reduces growth) would be considered to weaken and not strengthen a currency.

``The sooner we have the hike, the better, as preventive action is
cheaper than boosting rates to chase down inflation,''
Marian Noga.

Faster-than-expected economic growth in the third quarter and a drop in unemployment have increased the chances inflation will breach the 3.5 percent upper limit of the central bank's target. The inflation rate, which rose to 3 percent in October, first exceeded the target's 2.5 percent midrange in June.

Noga said the repurchase rate may have to rise to between 5.5 percent and 5.75 percent in quarter-point moves to quell consumer- price growth. ``Moves by 25 basis points are reasoned and balanced,'' Noga was quoted as saying in an interview in Warsaw.

Growth continued at the strong annual rate of 6.4 percent in the third quarter of 2007, according to data released by the Warsaw-based National Statistics Institute earlier this week. Year on year retail sales rose in October by 10 percent, while sales of manufactured goods increased 14 percent on year in October.

Not everyone in the central bank agrees with Marian Noga, however. Monetary Policy Council member Miroslaw Pietrewicz has said that Poland's central bank should delay raising the benchmark interest rate until policy makers assess whether four increases this year have contained inflation.

The increases are ``a lot and the first results could be visible in the second half of next year,'' Pietrewicz, 66, said is quoted as saying in an interview earlier today in Warsaw. "Inflation is currently driven by factors that cannot be influenced by monetary policy", while any further increases "could boost inflationary expectations."

Pietrewicz's comments may signal a split in the council about the future direction of monetary policy and is an indication of the difficulties the central bank will have in controlling inflation in the years when Poland is trying to enter a euro adoption process.

Poland's inflation rate, which was at 3 percent in October, probably reached the 3.5 percent upper limit of the central bank's target in November because of rising food costs around Europe, the Finance Ministry said on Dec. 3. The Organization for Economic Cooperation and Development said today Polish consumer-price growth will accelerate to 3.6 percent next year.

Pietrewicz takes the view that such predictions don't necessarily "require a reaction from us, because first of all, we need to be sure that this acceleration is not a one-time jump generated by food prices, as it was in October"......."It's too early to figure this out in December".

The government also plans to reduce the budget deficit to 27 billion zloty ($11 billion) from the targeted 28.6 billion zloty.

Friday, November 30, 2007

Poland GDP Q3 2007

Poland's economy expanded an annual 6.4 percent in the third quarter, a little faster than forecast, increasing concerns that the economy may be running above its long term capacity rate, and raising expectations that the central bank will raise interest rates further. Growth in gross domestic product in the period from July to September compared with 6.7 percent in the second quarter and 6.8 percent in the first quarter, according to the Warsaw-based Central Statistical Office.

The Polish central bank this week raised its benchmark interest rate to a more-than two-year high of 5 percent, the fourth increase this year, on concerns inflation may accelerate further above target. Booming demand for cars, furniture and household appliances has been triggered by an average 10 percent increase in wages this year and a record pace of job creation.

Domestic demand grew 7.4 percent and consumer demand increased 5.2 percent, while investments rose 18.8 in the third quarter, the office said. Production grew 6.6 percent and construction was up 12.6 percent, the office said.

Tuesday, November 27, 2007

Poland Central Bank Meeting

Poland's central bank raised its benchmark interest rate for a fourth time this year today after higher food costs and strongly growing consumer demand is firing up inflation inflation. The bank's Monetary Policy Council lifted the seven-day reference rate by a quarter point to 5 percent.

Poland's $350 billion economy is expected to expand 6.5 percent this year, compared with last year's 6.6 percent, bolstered by domestic consumer demand. Poles are buying more cars, furniture and household appliances after wages soared 10 percent this year and new jobs were created at a record pace.

The zloty traded at 3.651 per euro after the decision, little changed from 3.651 before the decision and up from 3.672 yesterday. Yield on the government's five-year bonds was unchanged after the rate decision. It fell 2 basis points to 6.012 percent from yesterday.

The inflation rate rose in October to 3 percent, above the central bank's 2.5 percent target and in the upper part of the 1.5 percent to 3.5 percent range. Policy makers raised the benchmark rate by three-quarters of a point between April and August in three quarter-point increases.

The average corporate wage rose 11 percent in October, the fastest annual pace in seven years and the unemployment rate fell to an 8 1/2-year low of 11.3 percent. With more money in pockets, Poles moved to buy cars, furniture and household appliances, boosting retail sales in October an annual 19.4 percent, the highest in 3 1/2 years.

The consumer-optimism indicator WOK, compiled by Ipsos market researcher, rose in November by 5 points to 112.9, the highest since 1991.

The Lombard rate, which the central bank charges to commercial banks borrowing overnight with government securities as collateral, was also lifted by a quarter point to 6.5 percent. The discount rate, a reference rate for some bank loans, will rise to 5.25 percent, also by a quarter point.

Monday, November 26, 2007

Poland October 2007 Retail Sales

Polish October retail continued their rapid rate of annual increase adding to evidence that economic growth remains strong despite four interest rate increases from the Central Bank so far this year. Retail sales rose an inflation corrected 16.3% in October over October 2006, this was up from a 12.2% rise in September compared with 14.2 percent in September, according to the Warsaw-based statistics office today.

The growth which is driven by sales of vehicles (which rose 42% year on year) and sales furniture and household appliances (a 21.9% annual rate of increase) - confirms the impression that consumer demand is being bolstered by falling unemployment, which dipped to an 8 1/2-year low, higher wages, which last rose the most in seven years last month, and a steady and economically significant inward flow of remittances.

The unemployment rate fell for the ninth consecutive month in October to 11.3 percent from 11.6 percent in September, the office said in a separate report today. Earlier this month, the office said that average corporate wages advanced an annual 11 percent in October and employment grew a record 5 percent from the year before.

Economic growth slowed to 6.4 percent in the second quarter from 7.2 percent in the first three months of the year. The report on third-quarter gross domestic product will be released on Nov. 30 at 10 a.m. The full-year growth will be in the region of 6.5 percent, Deputy Finance Minister Katarzyna Zajdel-Kurowska said at a seminar in Warsaw today, confirming the ministry's earlier forecast.

Wednesday, October 24, 2007

Catch Up Growth and Demographics - Evidence from Eastern Europe

by Claus Vistesen: Copenhagen

Performing a simple series of adept Googling exercises around various sources on the internet you can easily discover that certain species of the lynx are able to travel at speeds of up to 50 kph (31 mph). Wikipedia informs us that the Eurasian lynx, on average, commands a hunting area of between 20-60 square kilometers in which the lynx is able to walk and run about 20 kilometers in one single night. All in all, a pretty rugged and constitutional little thing this lynx.

In this way, and perhaps because, at that particular point in time, the Eastern European Economies looked as if nothing could come in their way of economic prosperity and growth they were paired, by the Economist, with the region's sturdy feline coining the notion of 'Lynx Economies.' Thus, 'that particular point in time' was sometime back in the spring of 2006 where the Economist's (and my own) coverage of the CEE and Baltic economies came in hot on the heels of publications by the World Bank and and the Vienna Institute of Comparative Economic Studies speaking favorably of the future prospects of economic prosperity and thus 'catch-up' growth in the CEE and Baltic Economics.

Yet, merely 1 year and a tad later things seem to have changed quite significantly with respect to the discourse on the economic situation in Eastern Europe. Many of the contributors to this blog has been pitching on the change in discourse but also some of major institutional actors have been flagging the red banner. Not least the World Bank seems to have changed their attitude somewhat with most notably a recent report on the demographics of Eastern Europe entitled From Red to Gray - The Third Transition of Ageing Populations in Eastern Europe and the former Soviet Union as well as a recent writ with specific focus on the macroeconomic risks prevailing in the region. Yet, also the IMF in their latest World Economic Outlook devotes a chapter to the managing of large capital inflows where Eastern European economies also take center stage of the general tone of warning; in essence this note of warning concerning Eastern Europe seems to be the general talk of the day amongst economic analysts and journalists. As such, perhaps even the lynxes roaming the forests and planes of Eastern Europe are beginning to feel that the otherwise catchy notion conjured by journalists at the Economist is becoming something of a stretch according to the reality of the situation. Sure, things are moving fast now but it is what happens next which might finally serve to make the allegory rather unrealistic. In this entry I set out to explicitly investigate an issue which in fact has been treated several times on this blog and perhaps most often in the context of the CEE and Baltic Economies. Simply put and in the form of one simple question;

  • How do changing demographics and more specifically the final and ongoing stages of the demographic transition affect the notion and principle of economic catch up growth and thus economic convergence as it is stipulated by (neo-classical) economic growth theory?

As I have hinted above in the introduction my main subject of analysis on which the general theoretical argument is based is the current and ongoing situation in the CEE and Baltic economies. A lot has been written about this recently not least from the hands of the contributors to this blog (see also above). As a one-stop overview of the concrete issues at hand this recent note by Edward over at Global.Economy.Matters should provide you with suitable ammunition to get you started. In particular, the following three point overview of the current economic situation in Eastern Europe should always be in the back of your mind as we move forward from this point ...

Basically the principal outstanding issues confronting the EU10 countries are threefold:

  • Labour capacity constraints (which are normally a by product of long-term low fertility and large scale recent migration flows) are producing significant wage inflation and strong overheating.
  • A structural dependence on external financing - which is in part a by-product of the effect of low levels of internal saving, and which is another factor which separates the EU 10 from those like India or China who are benefiting from a typical demographic dividend driven catch up, is leading to large current account deficits, and potentially high levels of financial instability.
  • A loss of control over domestic monetary policy due to eurozone convergence processes which - with or without the presence of formal pegs - make gradual downward adjustment in currency values as a alternative to strong wage deflation virtually impossible. This issue is compounded by the likely private "balance sheet consequences" of any sustained downward movement in the domestic currency given the widespread use of mortgages which are not denominated in the local currency.
Traditionally a rigorous economic analysis in the light of the immediate events would focus a lot on point 2 and 3 but in this note we shall look specifically at number 1 and the issues of labour capacity, its constraints, and what it means of the economic growth of less to medium developed countries. Now, the most obvious caveat in this entry is that I really don't have the time at this point to really lay out the whole theoretical framework of economic growth theory and as such the precise slot in which my argument should be inserted within the wider theoretical framework. This will be the topic of a more rigorous article not suited for the blog format. However, I still need to attach some comments to set the scene where I should also immediately note that my previous note here at DM about catch up growth in Eastern Europe serves as a good state of the game post for what comes next.

Apart from my studies of selected pieces of the economic growth literature one of the best overviews of the concept of economic convergence as a function of the theoretical and practical assumptions vested in the growth models is to be found in an article by Norbert Fiess and Marco Fugazza on economic integration in Europe (PDF). As such it is important to note that convergence of GDP per capita levels is not a holy grail within the fields of economic growth theory. Rather, the process of convergence should be seen as an inbuilt consequence of the fact that as economies mature returns to production inputs decrease; that is to say that this discussion essentially revolves around the concept of increasing v. decreasing returns to scale in our economic model. If we think about decreasing returns to scale and introduce the concept of marginal productivity to production inputs we can then see that less developed countries are likely to exhibit higher rates of growth than their more mature counterparts in the sense that their marginal productivity is higher which then leads to a process of convergence. Now, this argument in its most strict sense is usually applied in the context of capital as a production input and coupled with the properties of an open economy and subsequent free flow of production factors this would lead to a rather rapid process of convergence or absolute convergence as the technical term. As regards to labour as a production input is has also been argued that the universal transition from an agricultural to manufacturing over to service (?) based economy produces a mechanism of convergence in the sense that this process implies a move up the value chain and thus that every unit of labour becomes more productive. Of course and even though we are talking about stylised facts here, this is also where the whole debacle begins in the context of my immediate argument because how certain is this process? Also, we need to take into account the distinction between stocks and flows (of labour) which is a crucial issue to consider when talking about ageing economies.

However and it does not take much of an economist to see that empirical facts do not support the idea of absolute convergence or at least it seems as if the process takes much longer to materialize than predicted by the theory. This has lead, among other factors, to a 'new' strand of economic growth models which allows for persistent growth divergence to exist between countries. The crucial aspect to understand here is the mechanism through which persistent divergences can occur. In this way, one of the widest contributions by economist to this thesis has dealt with the possibility that technological processes and thus accumulation of technological advances exhibits increasing returns to scale. The fundamental brilliancy of this notion is that it allows for a model where there is indeed decreasing returns to labour and capital but where different levels of technological effort leads to internal positive feedback mechanisms and thus explains persistent divergences in growth and 'prosperity' across countries.

Ok, I think that I have already said enough at this point and in order to get us back to track one crucial assumption and conceptual idea needs to be pinned down. As such and if we look at the rudimentary description of the economic growth process above it is not wholly unreasonable to argue that the growth process of an economy is somewhat directly related to the process of the demographic transition. Or as Robert Lucas puts it in a widely cited article ...

That is, the industrial revolution is invariably associated with the reduction in fertility known as the demographic transition.

As such, why don't we take a look at Eastern Europe where the economies have experienced, quite as expected by the conventional theory of economic growth, economic dynamics tantamount to catch-up or convergence. Especially the economic data since the expansion from EU15 to EU25/27 and, for some countries, the subsequent anchoring to the Euro has been very impressive indeed. Yet as Edward and I have been at pains (see link above) to explain again and again these countries are not your average emerging markets. This follows from the fact that their demographic structures have been fundamentally distorted due to a collapse of fertility in the beginning of the 1990s which has been aggravated by a persistent net outflow of migrants serving to further speed up the decline in the working and essentially also most productive cohorts. In order to capture this development and in order to frame the current situation the following point I made in a previous note is worthwhile to repeat.

In short, we are dealing with countries where the demographic transition by far, and indeed worryingly, has out paced the traditional economic process of economic convergence.

This is exactly what we are talking about here and apart from going to the heart of the imminent issues in Eastern Europe it also strikes right smack into the concept of economic growth theory and how to deal with the fact that the demographic transition does not occur the way it was originally anticipated. Most emphatically, we can see in the context of the Eastern European countries that the final stages of the transition have arrived far before and quicker than the twists and turns of history allowed for these economies to really get on with business. Yet, the general argument can just as easily be expanded into a discussion of the ageing part of OECD where it is painfully clear at this point that conventional economic theories are wholly incapable of explaining what is likely to happen next. In fact, we could stretch it so far as to say that modern economic growth theory is not able to explain what happens when fertility drops to a level below replacement level and stays there!

In Summary

Even though that a lot words have been written in this entry I am afraid that only superficial contributions have been made to the final answer of the proposed question. This entry principally had one main task, namely to initiate a line of reasoning which ultimately and hopefully can lead to a better understanding of modern economic growth processes in a context of the current demographic profile of many developed and developing economies. Specifically, this entry revolved around the concept of catch-up growth/convergence where the countries in Eastern Europe were suggested as an example to demonstrate how demographics can fundamentally alter the principles by which the economic growth process is likely to conform. In this way, the message is not that modern economic growth theory and growth accounting methods are rendered obsolete in the face of changing demographics but rather that considerable adjustment needs to be made; especially in the context of catch up growth/convergence but also crucially in the context of the notion of a steady state of economic growth. Returning briefly to the real world before we sign off it could seem as if the branding of the lynx economies never was more than a quick and essentially expensive make-up which is set to quickly wear off as we venture on. Specifically, recent signs coming out of the ECB and the European commission suggest that expectations are aligning towards an outlook where the process of convergence effectively risks grinding to a halt. My advice would then be not to exchange the carrot too swiftly into a stick since this would only serve to kick those who are already on the ground.

Saturday, October 20, 2007

Friday, October 19, 2007

Employment in Poland

This post is essentially a research note on the current state of the Polish labour market. It forms part of a series of posts being prepared by Global Economy Matters to accompany the up and coming Polish elections, which are due to be held this weekend. Alongside this post you can find a general review of the electoral situation by Manuel Alvarez, and I will be writing additional notes on the Polsih trade balance and on migration and remittances in the Polsih context, while Claus Vistesen will be taking a look at indebtedness, capital flows and the current account balance situation. All in all a rather full analysis, which given the key role which Poland may play in any Eastern European emerging markets disarray is probably only fitting.

Now, at the end of September the Polish Statistical Office published its unemployment report for the second quarter of 2007, and very interesting reading it is.

Before going into the details of the report, perhaps a bit of background information would be useful. First of all, economic growth. GDP has been growing at a pretty nifty clip in Poland in recent quarters, not as fast as in the Baltics, but pretty fast, as we can see in the chart below. Over the last twelve month the rate has been hovering in the 6% to 7% region.

Now the question is, is this growth sustainable? Stripped to its bare minimum, an economy needs three things for growth - labour, capital and raw materials - pretty much in the same way as a cement mixer needs sand, cement and water, all in the right proportions, of course. The analogy, in the present context, is not completely devoid of significance, since construction activity, and hence the production of cement, is an important part of the recent Polish story in its own right.

So as I say: is this sustainable? Well, capital is at present in pretty plentiful supply, although the danger does exist - since this capital is to a large extent not the product of domestic Polish savings - that this supply could dry up, and even be sucked backwards, as Claus will explain in his post. Raw material are available, but not always at the most favourable price, as we are currently seeing in relation to food and energy.

But what about labour? What is the position with the labour supply situation in Poland? Well this brings us directly to the tricky topic of Polish unemployment, which we will now proceed to explore.

Long Term Unemployment Decline

Historically unemployment in Poland has been pretty high. Most recently it peaked in 2003, and has now been dropping for a number of years, as can be seen from the annual unemployment chart below.

If we come to look at the monthly unemployment data for the last twelve months then we can see that this decrease in unemployment has been accelerating steadily in recent times.

The decrease in the numbers of unemployed is in part, of course, a reflection of an increase in employment, and the volume of employment in Poland has, as can be seen below, been increasing steadily since the end of the contraction which took place between 1999 and 2004.

Here is the annualy % change in the volume of employment:

And here are the numbers of employed on a quarterly basis since the begining of 2004:

The number of people registered with the Polish labour offices as unemployed at the end of June 2007 was 1,895,100 (of which 1,107,700 were women). This constituted a reduction of 337,400 on the number of unemployed in March (the end of Q1). Compared with June 2006 unemployment was down by 592,500 (or by 23.8%). Thus, viewed on a quarterly basis, the decline has been very dramatic, as can be seen below.

Perhaps also worthy of note is the fact that the decline in the numbers of unemployed has been more rapid among men - 322,800 (or 29.1% of the total unemployed) - than among women 269,800 (or 19.6%).

When compared to June 2006 unemployment decreased in all the Polsish voivods, and the declines have been quite dramatic. The most significant declines took place in in Dolnośląskie (30.2%), Wielkopolskie (29.8%), Pomorskie (27.5%), Opolskie and Śląskie (26.8%).

(Please click over image for better viewing)

The unemployment percentage rate at the end of June 2007 was 12.4% of the economically active civilian population, and was thus 2.0 points lower than in Q1 2007, and 3.5 % points lower than in June 2006.

There is still considerable territorial difference in the levels of unemployment in Poland. The highest unemployment rate is to be found in the voivods of Warmińsko-Mazurskie (19.6%), Zachodniopomorskie (17.9%), Kujawsko- Pomorskie (16.2%) and Lubuskie (by 15.8%), while the lowest unemployment rate exists in the voivods of Wielkopolskie (9.3%), Małopolskie (9.5%), and Mazowieckie (10.2%).

(Please click over image for better viewing)

Looking at the two maps taken together, it is very clear that the area where labour tightening is most dramatic at the present moment is Wielkopolskie, since the unemployment rate is already comparatively low, and the pace of reduction in the unemployment rate is also pretty rapid. Wielkopolska Province is second in area and third in population among the sixteen Polish voivods, with a land area of 29,826 km² and a population of 3.4 million. The province's principal cities are Poznań, Leszno, Kalisz and Gniezno. It also hosts part of the Kostrzyn-Slubice Special Economic Zone.

In general terms what we can see is that as the Polish economy has been expanding, it has been consuming labour, and rapidly so. One interesting calculation here is to make an estimate of how much labour is needed to produce 1% of GDP growth with the current proportions of sand, cement and water which are being shoveled into the economic mixer (ie at today's rate of productivity increase). A rough and ready, rule of thumb type, calculation would tell us that to get 6% annual growth the unemployment roll is coming down by about 600,000 peopple per annum, that is that each annual percentage point of economic growth reduces the numbers of available unemployed by 100,000. (This is a rough and ready calculation, but it is a more sophistocated one than first meets the eye, since it does, in approximate way, implicitly incorporate the ageing and withdrawal from the labour force dimension).

What this means quite simply is that, given the relatively low size of the younger cohorts about to enter the labour force, a 6% growth rate just is not sustainable for that much longer. If we imagine that unemployment could only with great difficulty fall below 500,000 without producing spiralling hyper-inflation, then we have an outer limit of 2 years at the present growth rate I think.

After that, what is the sustainable - capacity - growth rate? This is very hard to say without a much fuller econometric analysis, since it depends among other things on the direction and intensity of both migratory and capital flows. Many people, and especially those with a relatively poor understanding of how economic processses actually operate, tend to raise the objection at this point that such a calculation may not be accounting for productivity growth. This would be a mistake, and an elementary one, since the present rate of unemployment attrition already incorporates a certain level of productivity improvement.

So what such an argument normally wants to claim is that some sort of rapid improvment in the rate of productivity growth is on the horizon - rather like Alan Greenspan argued in the late 90s based on the arrival of the internet. A continuing increase in Polish productivity is, of course, to be expected, but it is not clear why people are expecting a dramatic acceleration in the rate of productivity growth. If this expectation is to become more than a simple vain hope it does need some sort of analytical justification. In the meantime we might do well to bear in mind that such improvements are a by product of stocks and flow movements in human capital formation, which is why the age structure of the existing population, and their education level, is such an important topic.

So, if we said that between 2010 - 2012 Polish capacity economic growth might be something in the region of 2 to 3%, then we probably would not be that far from the mark. Post 2012 it is much harder to estimate things, especially since, among other issues, the ageing population component will begin to have an ever greater impact.

Labour Quality

One of the main issues on which we are focusing in this analysis is the rate of reduction of the unemployment level in Poland and the evolution of the future labour supply. It is important to be aware that this future evolution is in great part conditioned by two factors:

1) The very low numbers of live births (in historical terms) which there have been in Poland since the late 1980's and;

2) The relatively high levels of out migration which Poland has expecienced in the last three or four years, which mean certain key groups of workers in the main productive age ranges will not be available to Poland to fuel growth as we move forward.

I have a much fuller (examination of the Polish fertility vackground in this post , but the following graph should make the underlying position pretty clear:

Basically live births dropped from a level of around 700,000 per year in the mid 1980's to around 400,000 per annum in the mid 1990s. That is a net loss of 300,000 potential labour market entrants per year (or a reduction of around 40% in the labour flow, I can hear that cement mixer starting to crunch as I write), a loss which will increasingly make its presence felt between now and 2015.

With these points in mind it is interesting to note that in Q2 2007 the number of people who left the unemployment rolls was 873,000. The largest group who went off the unemployment rolls in Q2 2007 did so as a result of finding a job. In fact 364,000 people left the rolls to take up work in Q2 2007 (or 41.7% of the total leaving) as compared with 425,300 (or 46.8%) in Q2 2006.

It is also inetersting to note that during Q2 2007 264,900 people who were previously registered as unemployed did not confirm their readiness to take a job. This seems to suggest that the Polish authorities are busily cleaning up their unemployment registers - the reduction for "non-availability" constituted some 30.3% of the total reduction in the number of people on the unemployment rolls during the quarter (in Q2 2006 the figures were respectively 259,500 and 28.6%) - and many of the people removed were more than likely already working, whether the work in question was inside or outside of Poland.

So one part of the apparent Polish "reserve army" may in reality simply not exist. Another part may - speaking in plain English terms - be far from serviceable for modern economic growth purposes.

In this context it is interesting to note that the long-term unemployed constituted 65.7% of the Q2 2007 total (1,245,000), and many of these people may turn out to be very hard to "recycle" into the modern world. In terms of the relative age structure of the remaining unemployed, under 25 year olds constituted 18.9% of the total (358,600), while persons aged over 50 were 21.0% (398,1oo thous).

At the end of Q2 2007, 1,639,300 people on the rolls did not possess the right to unemployment benefit, and this group represented 86.5% of the total number of registered unemployed, (in the previous quarter it was respectively 1,930,700 and 86.5%). Among this group 43.4% were people living in rural areas.

There were also more female than male unemployed. At the end of Q2 2007 58.5% of the total unemployed were female, and this was up by 3.1 % points on Q2 2006. The highest percentage share of women in the total number of the unemployed is to be found in the Wielkopolskie (65.6%), Pomorskie (64.0%), Kujawsko-pomorskie (62.3%) and Małopolskie (61.5%)vovoids.

One of the key difficulties in evaluating the remaining unemployed labour force in Poland is getting a precise reading on the quality of the labour which remains available. It is hard to get a clear picture here, but one indication which is not without importance can be found in the fact that the majority of the unemployed registered in the labour offices were persons with relatively low levels of education. The share of registered unemployed who did not have any occupational qualification whatsoever was 30.7% of the total registered unemployed (582,000).

In addition the two largest groups among the unemployed were persons having only basic vocational orlower secondary education (30.1% of the total), or persons with only primary or even incomplete-primary education (32.5% of the total number of the unemployed registered at the end of June 2007). Combined these groups constitute 62.6% of the total number of the unemployed.

On the other hand some 22.3% of the total had the certificate of completion of post-secondary and vocational secondary schools, while 9% had completed secondary education and 6.1% were graduates from tertiary schools.

So, in conclusion, and to reiterate. Poland is facing a potentially very acute and imminent trade off between economic growth and inflationary cost push. Some indication of this can already be found in the producer price index, which has been coming under increasing pressure since early 2006:

The earlier interest rate tightening from the central bank seems to have had some sort of short term impact during the March to July period, but, as we can see, the thing now seems to be taking off again. This position is only even more strongly confirmed if we look at the construction producer cost index.

It is also very clear that the steady tightening of labour market conditions is having an impact of Polish wages and salaries.

The annual rates of increase have been steadily picking up speed, and while they are still below those to be found elswhere in Eastern Europe (like the Baltics, Romania, Ukraine) the early warning signs of the "Baltic Syndrome" are there, which is hardly surprising since the underlying causes are essentially the same.

Information for this report comes, by and large from the Polish Statistical Office and Eurostat. In particular the recently publishedunemployment report for the second quarter of 2007 was evry useful, while additional information was taken from the Q2 2007 Labour Report (archive).

Thursday, October 18, 2007

Poland House Price Index September 2007

Here's the relevant part of the monthly annual rate of change on the house price index that goes accompanies the EU monthly harmonised CPI. The rate of increase is brisk, but it is hardly inordinately high.

Polish Construction Output 2007

Well, I think this graph pretty much speaks for itself. Polish construction has seen some pretty large increases in output during 2007.

Since there are some silght differences between the two, here is the version of the index which is published by Eurostat. Since the time series I am using is also slightly longer, we can see that construction activity really seems to have taken off last autumn, reached a peak - in terms of monthly rates of increase - this spring, and is now slowin slightly, although, as I say, the rates of increase are still pretty substantial.

Monday, October 15, 2007

Inflation in Poland September 2007

Well with all that inflation going on all round the EU 10, I guess Poland wouldn't want to be left out, now would it? So just to prove a point, Polish inflation accelerated in September for the first time in three months. As elsewhere the increases were led by food costs, but there was also a sneaky little detail of housing maintenance costs. We wouldn't be short of a Polish plummer here and there would we?

In fact the inflation rate rose to 2.3 percent, after falling to 1.5 percent in August. Consumer prices gained a monthly 0.8 percent after dropping 0.4 percent in August.

Anyway, here is the chart for monthly inflation this year.

Actually, compared with what is happening eslewhere this rate of inflation almost seems saintly. Nonetheless it looks very probable that the central bank will raise interest rates again. In fact the Polish central bank has been very successful in bringing down inflation in recent years, as can be seen in the following chart for annual inflation.

The Polish central bank is more likely to raise its benchmark 4.75 percent repurchase rate This would be the fourth time this year that the bank has raised the rate - which is currently at 4.75% - to try to keep price growth under control as inflation threatens to breach the bank's inflation target for a second time.

The Monetary Policy Council of the Polish central bank lifted borrowing costs in March for the first time since May 2005 after the annual inflation rate reached the bank's target of 2.5 percent. The inflation rate fell to 1.5 percent in August from 2.6 percent in June.

Food prices rose 2.4 percent in September from August and 5.1 percent from September 2006. House maintenance costs gained 0.3 percent from August and were up 3.5 percent from a year ago.

The zloty also advanced following a pattern we are seeing in other countries as people react to the idea that interest rates might rise by finding the currency more attractive without reflecting on the long term dimension of where all this is leading.

Typical of the sort of response we are seeing is this one quoted in Bloomberg:

``The data should show the need for further monetary tightening in Poland and is likely to push the euro/zloty to new five-year lows below 3.72 today and toward 3.70 this week,'' a team of analysts led by Gavin Friend at Commerzbank AG in London wrote in a research note.

But the real underlying problem is not food prices by growing labour shortages and wages, as was made clear in separate report which showed that average annual wages climbed by 9.5% in September, down very slightly from the from 10.5 percent a year rate regsitered in August. Again, we are not yet at Baltic levels, or even at Bulgarian or Romanian ones by the curve is ascending and the clock on all those labour shortgaes is ticking away inexorably.

Of course, with delicate situations developing all over the EU10 the last thing Poland needs right now is an election, but that is what we are having this Friday. The latest news on this front is that support for the Citizens' Platform - the largest opposition party - rose to a record 46 percent according to a poll carried out by TNS OBOP and published by the Dziennik daily., This would be enough to create a majority government, but matters are far from clearcut, and rolling survey by PBS DGA published in Gazeta Wyborcza daily showed backing for the Platform at 38 percent and for Law & Justice at 37 percent.

Thursday, September 27, 2007

World Bank Report on Labour Shortages in the EU10

The European Union's 10 eastern members must take concerted action to increase employment participation levels to avoid a serious short-term slowdown in economic growth and important supply-side structural problems in the longer term according to a report published today by the World Bank.

"Addressing the emerging skills shortages is particularly important, because failure to do so will constrain job creation and future economic growth"

You can find the report summarized here, or you can download direct here.

Claus and I will prepare a full summary and review over the weekend, but for now here are some revealing extracts.

The report in fact says the following:

In this atmosphere of short term turbulence it is important not to lose sight of the longer term trends and the fundamental challenges the EU8+2 continue to face. With the exception of Hungary, growth remains high throughout the EU8+2 and in the case of Latvia represents serious overheating. This growth is sustained largely by consumption and investment. With tightening labor markets, large increases in real wages and employment and very rapid credit expansion, a moderate slowdown in growth may in fact be desirable in the countries showing signs of overheating.

They also have this to say, which is IMHO very important, and to the point:

Unemployment has fallen substantially in virtually all EU8+2 countries since 2004 due to strong growth in labor demand. This has given rise to skill shortages and associated wage pressures, often amplified by out-migration of EU8+2 workers. However, employment/working age population ratios remain relatively low.

Really this is the very point that Claus and I have been making. They then continue:

In contrast to the earlier period of weak labor demand it is now the supply side of the labor market that constrains new job creation. Many persons of working age are economically inactive in EU8+2 either because they lack skills demanded by employers, or because of labor supply disincentives, such as early retirement benefits, generous disability schemes, high payroll taxes, and limited opportunities for flexible work arrangements. These effects are concentrated among the younger and older workers, while the participation rates for middle aged workers are similar to those of the EU15. Hence the main challenge facing now EU8+2 is to mobilize labor supply to meet the demand. Addressing the emerging skills shortages is particularly important, because failure to do so will constrain job creation and future economic growth. To increase the effective labor supply EU8+2 countries need to: (a) improve labor supply incentives through reforming the social security systems, (b) improve worker skills through reforming the educational systems and improving domestic mobility; and (c) import labor with skills that are in short supply by opening labor markets to foreign workers. The weights assigned to each policy depend on the nature of the most binding constraint to labor supply, which vary across countries.

also this is very important, even if I am nowhere near as optimistic as the World Bank is about the possibilities of Eastern Europe staying out of the firing line, especially as the eurozone itself is slowing fast.

The effects of deepening financial turbulence would potentially be more serious for the EU8+2, but are more difficult to predict. The greatest risk is that the countries that have large current account deficits – the Baltics, Romania and Bulgaria – are suddenly less able to finance them through capital inflows and are forced into an economic contraction. This is particularly true for countries like Hungary that are highly dependent on more volatile portfolio inflows than on FDI. Banking sector foreign borrowing which is the main financing source in the Baltics is generally less volatile than portfolio flows, but the extreme surge in the Latvian CAD (to 30% of GDP in the 12 months to end July ) clearly cannot be financed in this way in a sustained manner. There are other potential risks as well. A general retreat from mortgage lending provoked by US experience would lead to broad based credit tightening and weaken the booming construction sector in the EU8+2. Moreover, the increased risk sensitivity may cause the unwinding of carry trades making external finance more difficult for higher interest, carry trade destination countries.


In the latest quarters unemployment rates have either continued to fall or have remained fairly stable despite upward seasonal pressures. In several countries unemployment rates declined to historical minima (the Baltic States, the Czech Republic, and Poland). Employment rates in Latvia, and also in Estonia reached the highest levels since the start of transition and are around 68% for people aged between 15 and 64 years, which is close to the Lisbon strategy target of 70%. Nevertheless, further employment increases may be limited because of structural nature of joblessness due to skills mismatches and unwillingness to relocate or retrain, which is particularly relevant for those who stayed out of the labor market longer.

The recent trends have undoubtedly strengthened the power of employees in the wage bargaining process. Real wages have begun to grow rapidly in Poland where their expansion had been moderate so far. The highest growth is occurring in sectors which suffer most from shortages of workers (for example, construction). Rising employment and strong dynamics of real wages are pushing the growth of the wage bill into double digits. Nevertheless, demands of higher wages for public sector employees come into sight in most countries in the region. In Bulgaria and Poland, trade unions are prepared to resort to strikes or the threat of strikes in wage setting negotiations.

In all countries apart from Slovakia and Slovenia, wages are growing faster than labor productivity. Rising unit labor costs provoke central bankers in the region to tighten monetary policies (Poland and the Czech Republic). Apart from inflationary pressures, excessive ULC growth may undermine competitiveness and prospects for sustained long-term output growth and further labor market improvement.

Wednesday, September 26, 2007

Polish Central Bank Leaves Interest Rates Unchanged

The Polish central bank kept its benchmark interest rate unchanged, following three increases this year, stating that it is awaiting more evidence on whether or not inflation is under adequate control.

The Warsaw-based Monetary Policy Council left the seven-day reference rate at 4.75 percent today, following a quarter-point increase last month.

The central bank raised borrowing costs after inflation reached its medium-term target of 2.5 percent in March and exceeded it in June. The annual rate fell to 1.5 percent in August and the zloty has gained 1.3 percent as compared to the euro during September.

Poland's economy expanded an annual 7.4 percent in the first three months of the year and 6.7 percent in the second quarter.

The Polish unemployment rate fell in August to an eight-year low of 12 percent, while average corporate wages rose 10.5 percent in August from a year ago, the fastest pace in almost eight years.

The zloty traded at 3.779 per euro at 1:10 p.m., unchanged after the rate decision and from yesterday. The yield on the government's five-year bond was also unchanged at 5.582 percent.

Tuesday, September 25, 2007

Polish August 2007 Retail Sales

Polish retail sales rose at an annual 17.4 percent rate in August, this was the fastest annual pace in five months, as rising wages and increasing employment are encouraging spending. Retail sales rose 2 percent from July, according to data out today from the Polish statistics office.

The accelerating rate of economic growth has encouraged companies to increase hiring and wages have started to increase rapidly. This has raised central bankers' concerns that inflation is poised to pick up. The Monetary Policy Council raised its benchmark interest rate three times this year to keep inflation from exceeding its 2.5 percent target.

Thursday, August 30, 2007

Polish GDP Q2 2007

Here is the latest preliminary release from the Polish Statistical Office for Q2 GDP:

Poland's economy expanded an annual 6.7 percent in the second quarter, faster than expected, suggesting interest rates may be raised a fourth time this year. Growth in gross domestic product compared with 7.4 percent in the first quarter, the Central Statistical Office reported in Warsaw, and exceeded the 6.1 percent median forecast of 21 economists surveyed by Bloomberg. The economy grew 6 percent in the second quarter of 2006.

In fact the rate of GDP growth in Q2 - which according to my calculations was 0.34% - seems to have slowed from Q1, when it was a fierce 1.6%. This slowdown can be seen in the following chart.

Domestic demand increased year on year by 9.3% in the second quarter, up from 8.6% in the first quarter, and from 5.4 percent in the same period last year. Consumer demand increased 5.1 percent, up from 4.8 percent a year ago, while production grew 6.3 percent, slower than the 9.2 percent growth rate achieved in the second quarter of last year.

The prime contributors to second quarter growth seem to have been fixed investments and a large increase in inventories, which combined boosted annual growth in gross capital formation to 34.2% in the second quarter, up from 26.8% in the first quarter.

Construction, of course, increased considerably - by 17.7 percent - up from 12.1 percent in Q2 2006, but down from the first quarter's 40.1% rate, an output level which had been aided by unusually warm winter weather.Investments rose 22.3 in the second quarter, up from 14.5 percent last year and down from 29.6 percent in the first quarter.

Basically it is very hard to determine anything very clearly at this stage from the provisional data we have. A lot depends on what is happening with the inventories, and where construction is going. As we can see from the following chart, the annual increase in Q2 has slowed somewhat, but this doesn't really mean that the economy is slowing to any significant extent, we need to see more data going forward to decide on this.

What the data does seem to show is that fixed investment has replaced private consumption as the main contributor to growth, and this seems strange. Fixed investment contributed a net 3.8 percentage points to second quarter GDP growth, up from 3.6 percentage points in the first quarter. Private consumption contributed 3.2 percentage points, down from 4.6 in the first quarter.

A negative contribution was made by foreign trade, at -2.6 percentage points, a deeper dent than the -1.1 percentage points registered in the first quarter. Exports increased 7.8% on the year in the second quarter, while imports grew 14.2%. So obviously there are big trade balance issues to think about.

Industrial output growth slowed to 6.3% on the year in the second quarter, from 9.1% in the previous three months. While the services sector expanded 6.0% on the year, down from a 7.4% increase in the first quarter.

Wednesday, August 29, 2007

Polish Central Bank Raises Interest Rates

The Polish central bank raised their benchmark interest rate a third time this year today, as wage growth and household spending coupled with growing labour shortages threaten to push up inflation. The Monetary Policy Council lifted the seven-day reference rate by a quarter of a percentage point to 4.75 percent.

The Polish economy expanded 7.4 percent in the first quarter, which was the fastest pace in a decade. With wages rising at a record pace in the second quarter, policy makers have said inflation may exceed the central bank's 2.5 percent target by the end of the year unless interest rates are lifted again.

In fact average corporate wages grew at an annual rate of 9.3 percent in July, and at a record rate of 8.9 percent in the second quarter. Employment rose 4.7 percent from a year ago in July, while unemployment fell to 12.2 percent and retail sales rose at an astonishing annual 17.1 percent. The inflation rate fell to 2.3 percent in July from 2.6 percent in June. The central bank expects it to rise to 3.3 percent by December if borrowing costs are left unchanged.

The interesting thing to note here, as can be seen from the piece below from Bloomberg, is that the Zloty kept falling despite the rate increase. The weather is changing, and quickly.

Poland's zloty fell for a second day versus the euro as declines in global equity markets prompted investors to shun riskier emerging-market assets.

The zloty dropped along with Turkey's lira and the Slovak koruna as the NTX Index of stocks in central and eastern Europe's 30 biggest companies lost the most in almost two weeks. The Polish currency was the second-worst performer against the euro in Europe after the Romanian leu.

``Investors are growing increasingly nervous and the declines in equity prices are taking their toll on emerging market currencies,'' said Michal Dybula, central European economist at BNP Paribas SA in Warsaw. ``We may see more losses if U.S. stocks open lower today.''

Against the euro, the zloty fell to a one-week low of 3.8495 and was at 3.8454 by 11:36 a.m. in Warsaw from 3.8302 yesterday. It may extend its drop to 3.9 by the end of 2007, Dybula said.

Monday, August 27, 2007

Katarzyna Zajdel-Kurowska and the Euro

Poland's Deputy Finance Minister Katarzyna Zajdel-Kurowska is widely quoted this morning as saying:

``Poland is definitely on the way to the euro.''

She made this statement after revealing that Poland's 2007 budget deficit will be narrower than the government's original forecast. I have no idea when or whether Poland will enter the euro, but I would say that, as in the case of the Baltics, the potential labour shortage issue, and the problem of wage and cost push inflation that this will generate is a much more important medium term obstacle to Poland's euro membership than the budget deficit issue is.

Friday, August 24, 2007

Poland, Retail Sales July 2007

Retail sales in Poland rose in July by 17.1 percent from July 2006 and 1.7 percent from June, according to the Warsaw-based statistics office this morning. This was the fastest annual pace in four months, and has raised expectations that interest rates will be increased for a third time this year, maybe as early as next week.

Variations in the monthly index can be seen in the chart below.

And the rapid rate of increase can be observed in the next chart which shows annual change each month.

Consumer demand, which is being driven by the fastest growth of wages in six years and a record increase in the number of new jobs, is putting considerable pressure on inflation, and this has already produced a half percentage-point increase in the benchmark interest rate earlier this year. Today's data may lead monetary policy makers to raise the interest rate again as early as at their next meeting on Aug. 28-29.

In a separate report, the office said the rate of unemployment in July dropped to 12.2 percent from 12.4 percent in June. The number of unemployed totaled 1.86 million people, or 39,000 fewer then in June and 587,000 below July last year, when the rate was 15.7 percent. The unemployment data confirmed estimates of the Labor Ministry published on Aug. 8.

The zloty was trading at 3.8389 per euro at 10:05 a.m. in Warsaw, up from 3.847 yesterday. The yield on the government's five-year bonds was unchanged for a second day at 5.69 percent.

Thursday, August 23, 2007

Polish Migrants More Choosy About Their Jobs in the UK

Signs are growing that the tide of Poles going to work in Britain may have peaked.

According to the UK Home Office, the number of workers applying to work in the UK from the A8 countries – the eight eastern and central European nations of the As analysed by Latvian Abroad here, almost two-thirds of the 683,000 workers who have applied to work in the UK from A8 countries have come from Poland.

The latest UK figures appear to show that eastern and central European migrants had started to move up the jobs chain and are occupying more professional positions.

Some 41 per cent of registered workers applied to work in administration, business or management posts during the latest quarter. This compared with 25 per cent three years ago when Britain opened its job market to A8 workers.

On the other hand, UK fruit and vegetable growers have warned this week that they are facing a struggle to attract sufficient eastern and central Europeans to harvest their crops because A8 workers had become more choosy about the work they undertook.

According to the Home Office the hospitality industry has accounted for 19 per cent of jobs filled by A8 workers, and agriculture 11 per cent, since 2004.

Wednesday, August 22, 2007

Running out of Capacity in Central and Eastern Europe

By Claus Vistesen

Cross Posted From Alpha Sources

Well, it is pretty much official now I think that some countries in Eastern Europe might be heading for an economic crash. As such, both the FT and the Economist recently ran articles on this topic in which warnings were duly handed out. On the record, I am pretty convinced myself that some countries might crash very soon among those the most notable candidates being Latvia and Lithuania. Behind this doom and gloom call is a very simple hypothesis that demographics matter for economic growth and that this fact is now hitting home big time in the CEE countries proxied by dwindling capacity to match expectations of economic growth and prosperity. Of course I am sad to say, the mainstream coverage cited above did not have the faintest squeak about demographics and the unique population regime in which the CEE countries are situated. For that reason I recommend you to read Edward Hugh's recent post at AFOE in which he pins the Economist, his note on Latvia as well as my own analysis on Lithuania. In this entry I am looking at Poland in much the same way that I have been looking recently at Lithuania. Clearly, Poland are Lithuania are different not only because of the differences in size but also because Poland seems to be equipped with much more spare capacity than is presently the case in Lithuania and the other Baltic countries for that matter. I have marked 'seems' in italic since whereas Poland's unemployment rate is still in double digit territory accounts of substantial labour shortages are mounting which suggests that high growth regions in Poland are fast running out of qualified labour. In this way, the trend in the labour force is very similar to Lithuania but where Lithuania represents a small single deck frigate which is set to quickly succumb to any water intake Poland perhaps resembles more the Titanic. However, as I will demonstrate below, through graphs, the tendency is the same which only further substantiates the claim that when it comes to the CEE economies it is in fact, at this point, all about demographics and even though I realize that I am biased in my view here from the offset I just cannot see how any reasonable economist would be able to argue otherwise.

Let us look at the data then and more specifically the short term indicators on economic growth which show how growth and wage costs have been picking up the pace lately which also shows itself in a widening current account deficit. The first graph plots (in % y-o-y) growth in GDP, wage costs and industrial production, the second plots retail sales and the third plots the evolution of the current account deficit. Note that while the graphs for GDP(etc) and the current account share time perspective in the form of quarterly indicators the graph for retail sales plots monthly y-o-y % growth rates.




As can readily be seen, growth in Poland had been indeed picking up the pace in the past year. This has naturally pushed up the demand for labour with an ensuing rather dramatic tightening of the labour market to follow. Also wage costs are beginning to rise rapidly and as the Economist Intelligence Unit reports (sorry, no link available) labour productivity is not able to follow the speeds of wage increases which of course questions the sustainability of this brisk growth spurt. This is accentuated in the following quote which cites the view of JPMorgan ...

In Poland, JPMorgan expects the dataflow over the next two weeks to confirm that “the labour market continues to tighten fast and that the labor productivity-wage relationship is deteriorating."

Curiously, wage costs are yet to show up in core inflation and producer price inflation where growth is still very moderate relative to the overall economic growth rate. It serves to remember here that the Polish unemployment rate is still in double digit territory which indicates that capacity needs to be a bit more strained for pressures in CPI and PPI indices to take hold.

Like I argued with Lithuania I believe it is important to take a long hard look at the Polish labour market and population dynamics in order to see what is really going on. Regarding the latter, Poland is inhabited by about 39 million people and as almost all other CEE countries Poland is set to age very rapid as a result of a severe stagnation in fertility from 1990 and onwards still lingering today. This is a very important point to remember as we move through the graphs below. Let us begin with a long term indicator of migration flows which demonstrate that Poland has suffered from a net-outflow since 2001. The numbers might seem puny in relation to the general population size but remember two things. Firstly, Poland's demographic profile is already damaged as a result of the fertility decline and secondly that all evidence suggests the skill component of the net outflow results in a loss of net value added from the point of view of the Polish economy. In short, even if the numbers are small Poland can hardly afford to lose these people if catch-up growth is to be sustained.


This brings us to the general labour market dynamics which are presented below in terms of short-term indicators which share the time perspective as the economic data above. Essentially, two identical time series for unemployment are presented with the first being in real numbers and the second in percentage of the workforce.



Clearly, the situation in Poland is very different from Lithuania and as such unemployment in Poland still linger in double digit territory. However, this will not go on for much longer if the current growth rates are sustained and this is where the problems begin to emerge. As such, you could choose to flag optimism in Poland on the basis of what is after all very impressive economic momentum which at this point is even welcomely deviating from nudging up core inflation rates. However, this is also at the core of the problem with almost all CEE countries in the midst of what is currently an unprecedented spurt of global growth. These economies are thus growing briskly, quite naturally, as emerging economies but with the important qualifier that they have extremely mature and essentially loop sided demographic profiles. This means that given the underlying capacity constraints these economies are faced with they are quite simply growing much faster than is sustainable in any meaningful sense of the word. This has then, at this point, obviously caught up with market participants and financial commentators but my guess is that it is moving way faster than many seem to think. Clearly, Poland is not Lithuania where the time span is already under one year but it still raises the question of just how much further this can go given the underlying structural capacity issues. Also remember here that while structural remedies such as raising labour force participation rates as well to address the skill mismatch on the domestic labour market should be strongly advised this is just moving so fast in some countries that this really does not seem to be a viable solution to address what is clearly becoming a short term issue with long term and structural drivers. In the end, what we have now regarding the CEE economies is evidence that a demographic profile wholly out of sync with the economic stage of development effectively can halt the process of catch-up growth. In order to ram this point home here at the end we need to look at productivity and how brisk productivity needs to grow in order follow suit. And this is just the point; catch-up growth and productivity increase as an economy moves up the value chain takes time and time is exactly what the CEE countries do not have at this point with the current growth rates.


This was really the end of this entry but if you want to catch a glimpse of how fast this might be moving I invite you to read on. However, beware ... dodgy empirical methods and math will follow! Let us try then to do a thought experiment and ask the question, how far will it take for the Polish economy to reach a 'critical' level of unemployment rate where 'critical' here is defined as either a 3% or 5% unemployment rate?

Well, before we move I need to attach some important qualifiers.

Firstly, the following thought experiment does very little to represent sound empirical economics but the general approach is still worth while I think. As such, we know that rapidly ageing societies, especially those growing rapidly as is the case here, will tend to face a structural decline in the unemployment rate and/or the labour force as more people leave the labour force compared to entrants. Add to this, in the Polish case, the trend of net outward migration as well as the high economic growth rates and suddenly an unemployment rate of 10% becomes a rather small buffer. Secondly, be aware since math will now follow. I rarely do this at Alpha.Sources and I promise you that it will not turn into a habit but I think that it is important in this case.

Regarding the method I have already hedged my bets above and please do note that the underlying assumption of trend perpetuity in the following experiment makes the predictive power virtually useless, at least at the time horizon we will be looking at. So, what are we in fact looking at?

Well, based on rough and ready calculations the average monthly decline in the unemployment rate in Poland between July-06 and May-07 stood at a monthly decline of 2.4% (i.e. in absolute terms). Based on an all things equal approach, assuming trend perpetuity, how far would it take for Poland to reach an unemployment rate of 3% and 5% respectively? To answer this we use the common expression for time value of money as an imperfect yet useful approximation:

FV = PV(1+r)n (in our case -n but that is of little matter)

where FV denotes future value at time n, PV the present value at time 0, r is the compound rate at each period, and finally n denotes the periods. In our little experiment we approximate the expression to our need by assigning the values as follows;

FV: 3% and 5%

PV 10,5% (unemployment in May 07)

r: 2.4% (average monthly decline)

n: ? (i.e. this is what we want to find out)

Calculating for 3% ...

3 = 10,5(1.024)n

solving for n ... (a bit complicated but Excel delivers in a heartbeat)

In(3/10,5)/In(1.024) = -52.8

Which translates into about 53 months to reach an unemployment rate of 3% or 53/12 = 4.4 years assuming trend perpetuity.

Calculating for 5% ...

5 = 10,5(1.024)n

solving for n ...

In(5/10,5)/In(1.024) = -31.2

Which translates into about 31 months to reach an unemployment rate of 5% or 31/12 = 2.6 years assuming trend perpetuity.

So, was this useful at all? Well, perhaps not but do note that the assumption of 'perpetuity' as regards to a structural decline in the labour force/unemployment rate is not entirely voodoo magic when we think about the CEE societies. Clearly however, the process will be subject to notable nonlinearities as we approach ever lower levels and furthermore it is not certain that the current cyclical economic boost will continue. But the point is that, at the pace with which this is moving it is difficult to see how structural mechanisms such as improving labour market institutions, raising participation rates, and addressing the skill mismatch can keep up with the structural and cyclical run on the level of capacity if it continues much longer. Especially, the fact that these countries are now targets for a substantial part of new global credit suggests that the pressure is very high indeed. Note also that many central banks in the region would be effectively unable to act as a lot credit is denominated in foreign currency. As such, an aggressive turn of monetary policy to the loose side would entail severe balance sheet issues as the countries' domestic currencies most likely would plummet. Effectively this would mean strong appreciation of the liability side (denominated in e.g. Euro) relative to the asset side (denominated in the domestic currency).

In the end, whatever rate of decline we assign in our little pet model here we are looking at a horizon in most CEE countries where labour markets are set to tighten significantly in the next 2 years and in some countries it will move much faster than this.