Latvia, Hungary, Iceland: Fragile stabilisation but far from recovery

Latvia, Hungary and Iceland can be characterised as being in a state of 'fragile stabilisation,' but it is too early to speak of a recovery, Moody's Investors Service said in a new Special Comment analysing the current status of these three economies.
Moody's said that it cannot yet conclude with any certainty that the economies of the three European countries that have been hardest hit by the global economic and financial crisis have reached the bottom of their respective downturns, which have been exacerbated by the crisis.
"These are the only ones whose government ratings have experienced multiple downgrades over the past two years," said Kenneth Orchard, Vice President in Moody's Sovereign Risk Group.
After declining precipitously in late 2008 and early 2009, Moody's reported that the economic outputs of Latvia, Hungary and Iceland now appear to be levelling out and key economic indicators are no longer falling at the dramatic rate observed six months ago. These developments have also been mirrored in the countries' financial markets, suggesting that negative pressure may be diminishing.
"However, it is still too early to speak of a recovery in these countries because it is not yet clear whether these trends are sustainable," cautioned Dietmar Hornung, also a Vice President in the Sovereign Risk Group. "True upturns in the data, as opposed to a stabilisation or a moderation in the rate of decline, are still limited."
Much of the reported improvement is linked to external sectors, as the eurozone has been performing slightly better than expectations. The domestic sides of the economies remain weak as households and corporates struggle with elevated debt levels, the aftermath of housing bubbles in the cases of Latvia and Iceland, and weak banking sectors that are unable or unwilling to extend credit.
Moody's report goes on to say that the three countries' governments have been unable to provide the stimulus to domestic demand that has characterised the responses of many advanced countries to their respective fiscal crises. "Instead, the governments of Latvia, Hungary and Iceland are forced to reduce expenditure and raise taxes in response to the dramatic reduction in their revenue base," explained Orchard.
A further concern is the possible impact of upcoming cuts in public sector employment on confidence, as this could potentially lead to renewed weakness in domestic investment and consumption.