Bustling East Propping-up West?

From the WSJ today:


In Europe, Bustling East Props Up the West
Continent's Economic Heartland Powers Ahead as Exports to New EU Members Surge
By MARCUS WALKER
July 17, 2007; Page A10

SWIEBODZIN, Poland -- A long column of trucks winding east along a rutted road in the Polish countryside testifies to a little-noticed shift in the global economy: Soaring exports to Europe's postcommunist East are propping up economic growth in Western Europe.

Most economists expected the recent recovery in the 13-nation euro zone -- dominated by Germany, France and Italy -- to falter this year as slowing U.S. growth, high oil prices, the euro's surge against the dollar and rising interest rates took their toll. Instead, Europe's economic heartland is powering ahead, and companies in the region are busy investing and hiring.

In Europe, as in Asia, the dynamic growth of countries that have recently joined the capitalist global economy is creating new sources of demand. That is making economic growth in many of the world's developed countries less dependent on U.S. consumer appetite for spending.

From the Czech Republic to Russia, Europe's emerging markets are scooping up old Europe's products as they race to industrialize. Although these countries have relatively small economies -- Russia's total economic output last year was about $1 trillion, compared with the euro zone's $11.4 trillion -- they are disproportionately important as growth markets for Western European companies.

The 11 mostly Central and Eastern European countries that joined the European Union in 2004, in particular, are becoming major trading partners for Europe's established economies. Poland's economy, the largest among them, generated total output of $340 billion last year.

In this year's first quarter, the euro zone sold €54 billion ($74.4 billion) of goods to the EU's newest members, up more than 20% from a year earlier. They have overtaken the U.S. as an export market for the euro zone. In the same period, the U.S. bought €49 billion of euro-zone goods.

Among the reasons: In the past year, the euro has risen 10% against the dollar, making euro-zone exports more costly in the U.S. By contrast, the euro has weakened 7.2% in the same period against Poland's zloty.

Russia's economic boom, fueled by oil and gas but spreading to other sectors, is another important source of demand. It is becoming a crucial export market for Germany, Europe's most powerful exporter. Euro-zone exports to Russia were €16 billion in the first quarter, up about 25% from a year earlier.

Asia as a whole remains the euro zone's biggest export market, importing €72 billion of goods in the first quarter of 2007. But Russia and the new EU members are close behind at €69 billion. Moreover, exports to the new Europe are rising at about 22% -- twice the pace of exports to Asia.

The surge in EU exports behind the former Iron Curtain helps explain why Western Europe hasn't suffered from the U.S. economic slowdown, to the surprise of economists who are used to seeing Europe catch an economic cold when the U.S. sneezes. It also is contributing to the rebalancing of demand in the world economy.

After many years when the world was overly dependent on the American consumer's appetite for goods ranging from automobiles, to electronic gadgets to major appliances, U.S. households are retrenching. That means faster growth in Europe and elsewhere is needed to keep global growth from slowing.

"We're seeing much slower growth in exports to the U.S.," said Julian Callow, chief European economist at Barclays Capital in London. "If that weren't offset by growth elsewhere, then conditions would be much worse in the euro area."

Sales of capital goods, such as machines for factories and farms, are at the heart of the boom in exports to Central and Eastern Europe. That means German industry, which specializes in such equipment, is benefiting more than the more consumer-oriented industries of France and Italy.

For German machinery maker Krones AG, which makes bottle-filling machines for the drinks industry, business in the new EU countries has grown steadily. Russia, however, has emerged as a major market only in the past year. Krones's sales in Russia tripled last year, said Alois Tax, country manager for the Bavarian company.

Krones recently won a €40 million order for bottling equipment from Russian beverage maker Aqua Vision; it will supply hygienic technology that Mr. Tax describes as "the Mercedes of bottling." Multinational companies such as Coca-Cola Inc. and PepsiCo Inc. are buying Krones's machinery for their Russian plants. Underlying the boom, said Mr. Tax, is a new demand for luxury goods -- which in Russia includes bottled water. "People no longer want their water from a well," he said.

Consumer spending is rising in the new Europe, too, but not as sharply as investment by businesses, including the many multinational companies that have set up factories in Europe's relatively low-cost east.

Even luxury goods are heading east like never before. Four years ago, winemaker Giancarlo Moretti Polegato from Treviso, Italy, had no sales at all in Central and Eastern Europe. Last year his two wine companies, Villa Sandi and La Gioiosa, sold two million bottles there on the back of spreading affluence. That makes the region his fastest source of growth.

"Russians are coming to Rome, Florence and Venice as tourists and they're getting to know Italian food and wine," said Mr. Moretti Polegato. "Now you can find Prosecco on the wine list in top restaurants in St. Petersburg."

He also is selling increasing amounts of wine in Balkan countries such as Bulgaria and Albania -- "countries where we would never have thought of selling wine until a few years ago," he said.

Europe's trade boom is causing some strains, however. Many industries are operating at full tilt, giving rise to shortages of skilled workers and raw materials.

"Our greatest problem is a lack of experienced truck drivers," said Jan Alblas, owner of Dutch logistics company Alblas. "Everybody in Europe has this problem at the moment," he said. Alblas's business in Poland, the Czech Republic and Slovakia is growing at an annual rate of 10%, allowing the company to expand beyond its base in Holland, Belgium and Germany.

This year, Alblas began operating in Romania, which joined the EU in January, to exploit the potential growth of trade across the Black Sea. "In the future, Romania will be an important port for container transport coming to Europe from Turkey and the Far East," said Mr. Alblas.

Roads in the regions' emerging economies are often nowhere near Western European standards. "Infrastructure takes a long time to develop. That costs us time and delays," said Mr. Alblas.

That problem is all too visible on the clogged road through rural Poland that leads from Germany to Poznan, Warsaw, and beyond to the former Soviet Union. Trucks with license plates from all over Europe follow a broad, sweeping highway up to the German-Polish border on the Oder river. From there they funnel onto a Polish road with just enough space for lines of trucks to head east and west, daring cars to squeeze down the middle.

"I always feel queasy when I drive along this road; you need luck," said Robert Czarnecki, a local resident who says he often sees the aftermath of pile-ups. Poland's politicians, he said, are too busy pursuing political vendettas from the communist past to worry about improving the roads.

Others worry the trade boom with Europe's east may not be sustainable. Some of Europe's emerging economies, such as Latvia, are growing at a breakneck pace, while others, such as Hungary, have developed heavy trade deficits fueled by low interest rates and deficit spending. Some economists have compared the new Europe with Asia in the mid-1990s, before a wave of financial crises hit the region.

Hungary and others are making strides to correct their economic imbalances, said Reinhard Cluse, an economist with UBS AG in London. Growth in the region will continue provided these countries can maintain high rates of export growth to Western Europe, he said. So many auto plants are springing up in Slovakia, for example, that it is set to become the world's biggest car maker per capita, Mr. Cluse said.

Poland and Russia apart, Europe's emerging economies have relatively small domestic markets, and ultimately their economic growth will depend on selling autos and other fruits of their rapid industrialization back to Western Europe. Falling unemployment in the euro zone bodes well for consumer demand and makes most observers optimistic about the outlook for two-way trade.