Central and Eastern Europe (CEE)

A new business environment

2004 enlargement

• One of most significant events in EU history – 10 new member states– Population up 20%– Area increased by 26%– GDP up only 5%

• What are implications for EU and for business?

Characteristics of CEE

– diverse population - culturally and ethnically

– low tech and productivity – changing

– poor quality infrastructure

– low costs and wages

– relatively low income/head but skilled labour

€ 0 € 10,000 € 20,000 € 30,000 € 40,000 € 50,000 € 60,000

India

China

Latvia

Lithuania

Slovakia

Estonia

Poland

Czech Republic

Hungary

Slovenia

Portugal

Greece

Finland

Austria

Spain

Italy

US

Netherlands

Ireland

Japan

France

Denmark

UK

Germany

Sweden

Belgium

Employment costs – annual average full-time male

Source: Mercer Human Resource Consulting, Press release 4 April 2005

0 50 100 150 200 250

Luxembourg Ireland

DenmarkAustria

UKNetherlands

BelgiumSwedenFinlandFranceEU (15)

Germany Italy

EU (25)Spain

GreeceCyprus

SloveniaCzech Republic

PortugalMalta

HungarySlovakiaEstonia

LithuaniaPolandLatvia

Source: Eurostat

GDP per capita – 2005 (PPS)

6

Rationale for EU enlargement

• Cultural/geographical – part of Europe • Mutual economic and political gains • Internal gains:

– Economic: larger SEM, better policy co-ordination – Security: alliance building with former Cold War

enemies - containing Russia?– Political: extension of market orientated pluralist

democracy into former bastions of communism.

• External gains:– Enhanced regional role for EU and greater weight in

international affairs (eg trade negotiations)

Why join the EU?

• Alternatives?• EU - dominant and successful regional

framework - market access and assistance• Coincidence of requirements of transition and

enlargement - i.e. facilitate the process of modernisation

• Membership - able to influence EU law and policy

• Globalisation - membership of world’s largest trading bloc

8

The legacy of communism

Micro-economic problems:

• Absence of market mechanisms– inefficient resource allocations.

• Sectoral imbalances– over-development of heavy industries– under-development of consumer goods

industries.

• Environmental problems• Bureaucratic legal/administrative structures• Apathy- absence of competitive forces

9

(continued)

Macro-economic problems:• Repressed inflation via wage and price

controls• Monetary policy - often a reliance on foreign

debt• Inappropriate patterns of investment• Hidden/disguised unemployment

MASSIVE PROGRESS TO DATE IN OVERCOMING ABOVE PROBLEMS

10

Challenges of enlargement to European business

• Enlarges SEM– opportunities from supplying a larger market.

– CEE fast growing market for consumer and industrial products

– CEE share of extra-EU exports in 1983= 7% , by 1997 = 15.3%

• Competition: Inter-industry or intra-industry trade?– Eg Hungary -intra-industry trade ratio 61% 1994 but only 50%

1990. BUT

– Growth in inter-industry trade more evident (labour intensive and lower value-added production).

• Relocation of industry to CEECs ?

What does EU enlargement mean for

•Growth•Trade•Investment•Jobs•For the EU?

Growth

• After traumatic falls of early 1990s, 2004 accession states growing faster than EU(15) but:

– Real GDP in several still below that of 1989 • i.e. much catching up to do

Transition period GDP growth(2004 average CEE and Baltics = 5%)

-40

-30

-20

-10

0

10

20

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004

%G

DP

gro

wth

Estonia Slovakia Slovenia

Hungary Latvia Czech Republic

Real GDP in 2003 (1989=100)

0 20 40 60 80 100 120 140 160

Czech R.

Estonia

Hungary

Latvia

Lithuania

Poland

Slovakia

Slovenia

Bulgaria

Romania

Source: EBRD, 2004 Transition Report

Trade

• Growth of intra-industry trade• First half of 1990s – massive shift in CEE

trade towards the EU– Trend continues albeit at lower rate

• Opportunities for both eastern and western traders– e.g. capital goods from the West– Untapped markets in the east– Low cost advantages for the east in the west

0

10

20

30

40

50

60

70

80

90

100

1985 1990 1995 2003 1985 1990 1995 2003

%

Poland Hungary Czech Rep

Source: UNCTAD Handbook of Statistics

Exports Imports

Evolution of EU-25 shares of trade of major CEE countries

%exports to EU

0

10

20

30

40

50

60

70

80

CZ Est Hu Lat Lit Pol Slk Slvn Blg Rom

1995 2002

18

Investment

• Opportunities: low cost production, privatisations, skilled workforces and emerging local markets.– government incentives to

inward investing firms– cumulative FDI inflows

1989-2003 - $147.5 bn– Est. inflows of $14.8 bn in

2004– Big difference between

countries – e.g. since 2003, Slovenia is net exporter

0

5000

10000

15000

20000

25000

1990 1992 1994 1996 1998 2000 2002 2004

Growth of FDI in CEE/Baltic (US$mn)

Cumulative FDI per capita, $US, 1989-2004

0 1000 2000 3000 4000 5000

Czech R.

Estonia

Hungary

Latvia

Lithuania

Poland

Slovakia

Slovenia

Bulgaria

Romania

Source: EBRD, 2005 Transition Report

Trade and investment example

The motor industry

Motor industry

• 1989–9 - CEE companies produced over 3 mn cars for local market – not suitable for export

• EU motor industry – integrated, transnational industry before SEM

• Transition and accession – extends transnational European motor industry (econ. of scale and minimum efficient size) eastwards

• CEE provides – markets– Platform for exports

• 1988-92 - 2% of EU car imports by volume• 1992-5 rose to 7%• Mid-2000s - about 15%

• Since 1990 – all major European automotive investment in CEE - competition for investment

Slovakia VW 300,000 units

PSA Peugeot-Citroen 300,000 units by 2006

Hyundai Kia 200,000 units by 2006 with possible expansion to 300,000

Czech VW 450-500,000 units per annum

TPCA Toyota Peugeot Citroen Automobile

Production began early 2005 and will rise to 300,000 vehicles per annum

Romania Renault Dacia 95,000 units (2004)200,000 by 2010

Hungary Suzuki 200,000 by 2006 and later 270,000

Audi Engine plant and 55,000 vehicles

Slovenia Renault 132,000 units in 2004

Poland Fiat 360,000 units in 2004

Opel 110,000 units (2004):→150,000

CAR PRODUCTION IN CEE

CEE motor industry benefited from:

1. Qualified and low cost labour force – problems with inflexibility

0

5

10

15

20

25

30

35

Eu

ros p

er

ho

ur

wo

rked

Source: Derived from Revue Elargissement, Dossier 52 – March 2005

Labour costs in the motor industry – end 2004

2. Strong regional demand– Lower car ownership

rates– Older stock – 12-13

years vs8 years (EU15)

Car Ownership Levels in 2002

0

100

200

300

400

500

600

Cars

per 1

000 i

nhab

itant

s

Source: Derived from Revue Elargissement, Dossier 52 – March 2005

3. Proximity to West European markets4. Links with related industries – e.g.

materials and components5. Slovakia

• 2006 to become world’s largest car producer in terms of cars per capita

• At transition – produced no cars – 2006 will produce 800,000 plus

• Car production – 20% industrial production; 17% GDP and 25% exports

• Location: market and at centre of emerging auto cluster

VW Skoda - since 1991

• Greenfield investment - longer to take root• Limited joint venture - brownfield opportunities: VW

quickly took advantage – Skoda in Czechoslovakia– Initial reputation for poor quality and reliability– 1991 VW took 30% stake in Skoda – 2000 VW took last of government’s stake in VW – VW sees Skoda as platform for CEE and Russia and

Asia entry– Largest auto producer in CEE - output tripled– Consistent 50-55% of domestic market– Skoda’s image transformed

– Spillovers - within 5 years, VW Skoda had stimulated 52 joint ventures & 38 greenfield suppliers

– Largest sales revenue of any Czech company,

– Czech number one exporter (10% of all Czech exports - auto components a further 5%) - exports 52% of sales 1995 - approaching 80%; 64 markets -

– Leading industrial employer - plants and domestic supply chain employ 150,000 (4% Czech workforce)

– Helped integrate Czech component manufacturer into global automotive sourcing

– Some differentiation from VW cars - but many VW qualities at lower price

Jobs

• Low wages in CEE leads to competitive advantage over EU-15– Investment effect– Downward pressure on wages elsewhere in

EU

• Migration effects?

• Will CEE advantage disappear over time?

For the EU?

• New balance of power?

• Institutional pressure

• Extension of SEM

• Few policies unaffected

The Future

• Future members:– Bulgaria and Romania - 2007– Turkey - date unknown– Croatia – other former Yugoslav republics?– Others?