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November 22, 2013

Issue No. 13/37

CEEMEA Economics Analyst


Economics Research

CEEMEA Outlook: A year of cyclical desynchronisation


A DM-led global recovery, for the first time since 2008
Our outlook for 2014 sees an acceleration in global growth led by the US
and, to a lesser extent, the Euro area. Emerging market (EM) growth, on
the other hand, should pick up only marginally, impaired by structural and
cyclical headwinds. In this sense, we expect the global economic recovery
to be desynchronised, resulting in a narrowing of growth differentials in
favour of developed markets (DM).

CEEMEA recovery on track, led by Russia and CE-3


We forecast a further acceleration in CEEMEA growth in 2014 beyond the
acceleration we forecast for NJA and LatAm. Yet, we also expect the
growth differentials to DM to narrow for the CEEMEA region as a whole.
Within CEEMEA, we expect Russia, the CE-3 and Israel to lead the recovery.
We continue to see strong headwinds for the economies currently running
large external and domestic imbalances, and forecast sub-par growth in
South Africa, Ukraine and, especially, Turkey. Our forecasts are out of
consensus for particularly Russia (higher) and Turkey (lower).

Good inflation, bad inflation and reluctant rate hikes


We are also likely to see considerable divergence in inflation trends.
Inflation pressures should remain subdued in the CE-3 and Romania, while
Turkey, South Africa, Russia and, increasingly, Israel will face stronger
pressures. Accordingly, we expect CEE central banks to reinforce
accommodative monetary conditions, and Turkey, Russia and Israel to hike
rates. In South Africa, we forecast that rates will remain on hold until 2015,
thanks to the sizeable output gap that opened up in recent years.

Ahmet Akarli
+44(20)7051-1875 ahmet.akarli@gs.com
Goldman Sachs International

Clemens Grafe
+7(495)645-4198 clemens.grafe@gs.com
OOO Goldman Sachs Bank

Magdalena Polan
+44(20)7552-5244 magdalena.polan@gs.com
Goldman Sachs International

JF Ruhashyankiko
+44(20)7552-1224 jf.ruhashyankiko@gs.com
Goldman Sachs International

Kasper Lund-Jensen
+44(20)7552-0159 kasper.lund-jensen@gs.com
Goldman Sachs International

Andrew Matheny
+7(495)645-4253 andrew.matheny@gs.com
OOO Goldman Sachs Bank

Mark Ozerov
+44(20)7774-1137 mark.ozerov@gs.com
Goldman Sachs International

Market themes: All about growth and inflation differentials


Some of our market themes for 2014 will be familiar to our regular readers.
An inflation-less recovery in the CE-3 and Romania still seems highly
relevant to us and we remain bearish on the TRY and the ZAR. But our
main new theme for this year is the Russia/Turkey growth differentiation.
We also add two themes: an Inflationary recovery in Israel (in contrast to
the CE-3) and a more constructive view on South African equities (which is
in essence the flipside to our bearish ZAR views).
We also initiate coverage of Romania, for which Andrew Matheny will be
responsible.

Investors should consider this report as only a single factor in making their investment decision. For Reg AC certification
and other important disclosures, see the Disclosure Appendix, or go to www.gs.com/research/hedge.html.

The Goldman Sachs Group, Inc.

Global Investment Research

November 22, 2013

CEEMEA Economics Analyst

CEEMEA Outlook: A year of cyclical desynchronisation


From synchronised global slowdown to desynchronised global
recovery
The early stages of the global recovery (2009-2010) were desynchronised. Most developed
market economies were facing intense balance sheet pressures, which restrained their
ability to generate strong and sustainable recoveries, notwithstanding the exceptional
policy stimulus provided by core central banks and respective governments. In contrast,
many EMs did not face the same type of balance sheet constraints, and so could respond
to policy stimulus. As a result, EM bounced back strongly from recession and led the global
recovery. Through 2009/2010 EM accounted for most of the growth generated in the global
economy (see Exhibit 3).
However, the desynchronised global recovery also created its imbalances. Strong,
domestic demand recovery in EM resulted in a steady deterioration in external balances
and unleashed strong inflationary dynamics. This prompted significant policy tightening in
a number of leading EM economies, particularly in places where the authorities eased
monetary and credit conditions aggressively (e.g., China and Brazil). Consequently, the EM
recovery started to lose steam from late 2010 onwards, at a time when the DM recovery
remained weak and fairly fragile. Moreover, the intensification of the Euro area crisis in
2011 generated strong demand and financial shocks. This led to an even more pronounced
and increasingly more synchronised slowdown in global economic activity. Global growth
fell steadily through 2011 and 2012, and hit a post-crisis low of 2.9% in 2013.

Exhibit 1: The global economy has slowed but a recovery is now underway
Global real GDP growth, yoy
5
4
3
2
1
0
-1

GS Forecast

-2

Jul-17

Jan-17

Jul-16

Jan-16

Jul-15

Jan-15

Jul-14

Jan-14

Jul-13

Jan-13

Jul-12

Jan-12

Jul-11

Jan-11

Jul-10

Jan-10

Jul-09

Jan-09

Jul-08

Jan-08

-3

Source: Goldman Sachs Global Investment Research

Goldman Sachs Global Investment Research

November 22, 2013

CEEMEA Economics Analyst

DM to lead the way, as EM continue to face headwinds


Our new global macro forecasts suggest that 2014 is likely to mark an important inflection
point in the global economy in two important respects:
First, we expect the global economy to gather momentum going into 2014, return to its
long-term trend rate by 2015, and continue to grow at around 4% thereafter. Put differently,
we see scope for a more sustainable global recovery, through our forecast horizon.
Second, in the earlier stages of this recovery, particularly through 2014 and to some extent
in 2015, we expect DM to lead the way on growth, for the first time since the start of the
global financial crisis in 2008. In this context, we expect a more tangible recovery in the
Euro area, but ultimately the DM recovery is dominated by the (forecast) normalisation of
the US economy, with underlying economic growth settling at a higher, 3%-3.5% plateau
from mid-2014 onwards. Meanwhile, EM growth remains relatively muted at around 5.5%6.0%, with limited trend acceleration during the forecast horizon. As such, the growth
differential between EM countries and advanced countries is expected to decline to 3.1pp
in 2014, the lowest it has been since 2002, and remain below 3.5pp across the forecasting
horizon and 150bp below the average over the last decade.

Desynchronised recovery to reinforce EM differentiation


A desynchronised, DM-led global recovery will likely reinforce some of the differentiation
themes we have been highlighting for the EM complex. On the one hand, it implies an
improvement in external demand conditions, which have been a drag on EM growth over
the past couple of years. Small open, export-oriented EM economies, with direct exposure
to the Euro area (e.g., the CE-3) and importantly to the US (e.g., Mexico and Israel) would
be ideally positioned to benefit from this external demand impulse.
On the other hand, a DM-led recovery would also generate headwinds, mainly through the
financial channel. We do expect core central banks to continue to keep short-end rates
firmly anchored through 2014 and most of 2015, and to start gradually normalising
monetary policy in 2016 and 2017. However, we also expect core rates markets (particularly
in the US and Germany) to continue to price in a more favourable growth outlook, leading
not only to a steady increase in long-end (10-year) rates but also to a possible bear
flattening (from the belly) of the respective DM yield curves (see Showtime for the DM
recovery, Global Economics Weekly 13/38, November 20, 2103).
Exhibit 2: DM to lead the recovery for the first time since
2008

Exhibit 3: EM contribution to global recovery will be


more limited

EM vs. DM annual growth

EM vs DM contribution to the global growth

10.5

5.5
DM

EM
4.5

8.5

EM

DM

3.5

6.5

2.5

4.5

1.5
2.5
0.5
0.5

-0.5

-1.5

GS Forecast

-1.5

GS Forecast

-3.5

-2.5
08

09

10

11

12

13

14

Source: Goldman Sachs Global Investment Research

Goldman Sachs Global Investment Research

15

16

17

08

09

10

11

12

13

14

15

16

17

Source: Goldman Sachs Global Investment Research

November 22, 2013

CEEMEA Economics Analyst

The resulting market pressures may not be as acute as in mid-2013, when the Feds
tapering signal took the market by surprise a factor that likely amplified subsequent
market volatility. With the US term premium now fairly priced (in our view), any re-pricing
of the US yield curve is likely to be more gradual and more immediately dependent on the
US growth outlook. Thus, the potential pressures generated by rising yields should be
somehow better mitigated by a parallel improvement in the global growth outlook (The
anatomy of the EM rates sell-off, Emerging Markets Macro Daily, August 29, 2013). In
addition, EM economies with stronger balance sheet structures and more robust, credible
institutional and policy frameworks would probably be able to absorb the likely pressures
better. However, as the experience of 2013 has amply demonstrated, EM economies that
have accumulated large domestic and external imbalances are likely to be susceptible to
resulting BoP pressures and face stronger headwinds over the next couple of years.
Exhibit 4: Leveraged EM will be more sensitive to rising global interest rates
US yield pass-through effect on EM bond yields
50%

US yield pass through estimates

45%
40%

CEEMEA Avg = 36%

35%

AEJ Avg = 29%

LATAM Avg = 30%

30%
25%

Taiwan

Malaysia

South Korea

Thailand

India

Indonesia

Mexico

Brazil

Colombia

Russia

Israel

Czech Rep

South Africa

Turkey

Poland

Hungary

20%

Source: Goldman Sachs Global Investment Research

In sum, the DM-led recovery will likely generate strong push (demand) and pull (financial)
forces that could result in an increasingly more differentiated medium- and longer-term
outlook within the broader EM complex. Key differentiation themes here could be BoP
strength and policy anchors. Looking out to 2014 and beyond, we believe these
differentiation themes will also define the outlook for the CEEMEA region.

Taking stock of our 2013 CEEMEA forecasts


Last year when we were laying out our 2013-2016 forecasts for the first time, we argued
that CEEMEA would see a broad-based economic recovery, with little inflation pressure
over the next couple of years. Our main rationale was that the large financial and demand
shocks generated by the Euro area crisis were likely to reverse going into 2013, and that
would allow for a strong rebound, particularly in places that had been disproportionately
affected by the crisis (see CEEMEA Outlook: Plenty of green shoots, with little inflation,
CEEMEA Economics Analyst 12/12, November 29, 2012). Importantly, the recovery would
not be immediately inflationary, thanks to the output gaps that had opened up over the
past couple of years.

Goldman Sachs Global Investment Research

November 22, 2013

CEEMEA Economics Analyst

Exhibit 5: A nascent CEEMEA recovery started in 2013


Quarterly yoy GDP growth: CEEMEA Ex Russia vs. Russia
6

Russia
CEEMEA EX Russia

5
4
3
2
1
GS Forecast

Oct-17

Apr-17

Oct-16

Apr-16

Oct-15

Apr-15

Oct-14

Apr-14

Oct-13

Apr-13

Oct-12

Apr-12

Oct-11

Apr-11

Apr-10

Oct-10

Source: Goldman Sachs Global Investment Research

The inflation-less recovery theme applied particularly well to the Euro area-exposed CE
economies. The CE-3 and Romania were ideally positioned to benefit from a likely
normalisation in Euro area demand and financial conditions. The output gaps set a solid
foundation for recovery and were able to absorb potential inflation pressures, allowing
local central banks to continue to provide strong monetary accommodation. In Turkey, we
also saw scope for a fairly strong economic recovery and thought that the (moderate)
output gap could provide a disinflationary buffer in early stages of the cyclical recovery.
However, we also believed that the Turkish recovery would prove ultimately unsustainable,
aggravating external imbalances and generating strong inflation pressures. This would
prompt the CBRT to tighten domestic monetary conditions, which had eased significantly
through 2012H2. On the other hand, Russia and Israel did hold up reasonably well through
the Euro area crisis, thanks to the resilience of domestic demand. We expected both
economies to continue to perform well, growing close to trend, while keeping inflation
pressures in check. Finally, we expected idiosyncratic political headwinds and economic
imbalances to continue to hold back growth in South Africa and Ukraine.
Exhibit 6: while inflation pressures remained relatively subdued, except in Turkey and
Russia
15

Russia
Poland
Hungary
South Africa

GS Trim core inflation (yoy)

13
11

Turkey
Czech Republic
Israel

9
7
5
3
1
-1
-3
2006

2007

2008

2009

2010

2011

2012

2013

Source: Goldman Sachs Global Investment Research

Goldman Sachs Global Investment Research

November 22, 2013

CEEMEA Economics Analyst

In retrospect, the inflation-less recovery theme in the CE-3 and Romania unfolded broadly
in line with our expectations, except in that the recovery came a little later than we had
initially anticipated and on the back of more aggressive domestic monetary easing. In
Turkey, the initial recovery was quite strong and was largely underpinned by the strong
monetary stimulus provided by the CBRT, which eased rates more than we had initially
expected. In Israel, South Africa and Ukraine, our forecasts were also broadly in line,
although in all three actual growth rates turned out to be slightly weaker than we had
forecast. Finally, the most significant downside growth surprise came in Russia, with
underlying GDP growth falling sharply to 1.5% in 2013 from 3.4% in 2012, due both to
external and domestic factors. Growth in China in particular turned later than expected,
fiscal and quasi-fiscal spending was lower and the structural reforms being undertaken
proved more disruptive than we had anticipated. The downside surprise in Russian growth
dragged down the CEEMEA growth average significantly, to 2.3% in 2013, below the 2.7%
posted in 2012. That, however, disguises somewhat the improvement in the CEEMEA (exRussia) growth average towards 2.7% in 2013, from 2.3% in 2012.

Exhibit 7: EM sell-off put pressure on currencies undermined by high leverage and inflation
Trade Weighted CEEMEA Exchange Rates, 14 May 2013=100
103
101
99
97
95
93
91
89
87
May-13

TRY
HUF
PLN

CZK
ZAR
Jun-13

RUB
ILS
Jul-13

Aug-13

Source: Goldman Sachs Global Investment Research

What we did not fully account for was the sell-off in US rates. We noted that the
normalisation of the US economy and of US monetary policy could create strong
headwinds for the leveraged economies in our region (particularly for Turkey, South Africa
and Ukraine). However, we thought this could become a more dominant market force later
in 2014 and 2015, when we expected US growth rates to return to 3%-3.5% on a more
sustainable basis, prompting the Fed to start gradually withdrawing excess policy stimulus.
Again in retrospect, the market was quicker and more aggressive in re-pricing the US curve,
which was in fact driven by a (surprise) hawkish shift in the Feds tone rather than by a repricing of the US growth outlook. This led to serious market volatility. But pressures did
emerge in places where we thought the macro imbalances were more concerning.

Goldman Sachs Global Investment Research

November 22, 2013

CEEMEA Economics Analyst

CEEMEA recovery led by Russia and CE-3, and dragged down by


Turkey
Looking forward into 2014 and 2015, we see scope for further recovery. Our new CEEMEA
growth forecasts show acceleration towards 2.9% in 2014 and further to 3.4% in 2015, up
from 2.3% in 2013. As such, we expect the growth differential to advanced economies to
decline from 1.1pp to 0.7pp. This stands in contrast to our forecasts for other EM regions,
which show a more muted growth acceleration and a more visible compression in growth
differentials against DM.
Exhibit 8: CEEMEA growth forecasts, 2013-2017
GDP (%,yoy)
2013
-1.5

2014
1.7

2015
2.4

2016
2.6

2017
2.4

Hungary

1.1

1.8

1.9

2.2

1.9

Israel

3.4

3.7

4.0

3.6

3.2

Nigeria

6.5

7.0

6.2

5.8

5.5

Poland

1.4

2.9

3.2

3.4

3.2

Romania

2.4

2.7

3.1

3.2

3.5

Russia

1.5

3.0

3.6

3.6

3.7

South Africa

2.2

2.8

3.4

3.6

3.5

Turkey

4.5

2.0

1.8

5.8

5.0

Ukraine

-1.2

0.4

5.0

3.7

4.2

CEEMEA
CEEMEA Ex-Russia

2.3
2.7

2.9
2.9

3.4
3.3

3.9
4.0

3.8
3.8

NJA

6.1

6.4

6.7

6.7

6.7

LATAM

2.7

2.8

3.4

3.6

4.0

EM

5.2

5.3

5.8

6.0

6.0

DM

1.2

2.2

2.5

2.5

2.5

Czech Republic

Source: Goldman Sachs Global Investment Research

However, this is somewhat misleading, as the bulk of the forecast CEEMEA acceleration
comes from Russia and the CE-3/Romania, where we expect GDP growth to pick up
towards 3% and 2.5% in 2014 respectively, and then further to 3.6% and 2.8% in 2015.
Excluding Russia, CEEMEA growth becomes more comparable with the forecast trends in
NJA and LatAm. In this context, it is important to note that Turkey drags down the regional
average, as growth slows sharply from 4.5% in 2013 to 2.0% in 2014 and further to 1.8% in
2015, while Israel and South Africa see moderate growth acceleration, from a low 2013
base (Exhibit 8).

CEEMEA differentiation themes: Global drivers


The desynchronised DM-led recovery will generate strong pull and push factors for the
CEEMEA region, which will affect respective economies in different ways, depending on
their exposures to DM demand and the degree of domestic and external imbalances.
Improvement in DM demand conditions will help support further economic
recovery, across CEEMEA. CEEMEA as a whole has limited exposure to US demand and
will therefore not benefit as much from the normalisation of the US economy as LatAm
and NJA with the possible exceptions of Israel and Nigeria (Exhibit 9). For the region,
continuing (if still gradual) recovery in the Euro area will be a more important dynamic, and
should help reinforce nascent economic recoveries across the region, but particularly in the
highly Euro area-exposed CE-3 and Romania.

Goldman Sachs Global Investment Research

November 22, 2013

CEEMEA Economics Analyst

Exhibit 9: CEEMEA more exposed to Euro area than US demand


Trade flows in value added terms
20.0

gdp%

18.0

US final demand
EZ final demand
UK, Denmark and Sweden final demands
China final demand
Japan final demand

16.0
14.0
12.0
10.0
8.0
6.0
4.0
2.0
0.0

Source: OECD-WTO, IMF, Goldman Sachs Global Investment Research * Gross exports as a share of GDP for Ukraine and
Nigeria

However, external financial shocks will adversely affect economies running


large imbalances. Turkey, South Africa and Ukraine will likely continue to face BoP
pressures over the next few years. This years FX depreciation and demand adjustments
will help address some of these imbalances in all three countries and result in some
improvement in external balances through 2014. However, further adjustments will be
necessary to ensure external sustainability in Ukraine and Turkey and, to a lesser extent, in
South Africa. This will, in turn, constrain their ability to generate domestic-demand-led
recoveries to a large extent, and force them onto a sub-par growth trajectory over the next
two years.
Exhibit 10: Turkey, South Africa and Ukraine are still running large imbalances
Current account in Q2 2013 vs. improvement since Q2 2012

5
4

yoy
improvement
in CA (ppt)

Poland
Ukraine

Korea

Taiwan
Czech Republic

Israel

Colombia
South Africa

Hungary

Chile

Argentina
Indonesia
India Brazil
Mexico
Peru

-1
-2
Turkey

-3

Philippines

China
Malaysia
Russia

Thailand

CA, % of GDP, Q2 2013

-4
-10

-5

10

15

Source: Haver Analytics, Goldman Sachs Global Investment Research

Goldman Sachs Global Investment Research

November 22, 2013

CEEMEA Economics Analyst

The rest of the region will also be affected by the headwinds created by an increase in core
rates (particularly in the US, but perhaps more importantly in Germany) and will also have
to through an adjustment. But we expect the resulting pressures to be more manageable
and, importantly, to come through later in 2015 and 2016, when we expect core central
banks and especially the ECB to start withdrawing stimulus. In this context, the CE-3,
particularly Hungary, may face stronger headwinds, given continuing balance sheet
vulnerabilities and the low level of short-end policy rates.

CEEMEA differentiation themes: Cyclical drivers


The cyclical position of the economy will also matter a great deal. Places where
output gaps are large enough to allow the economies to expand without generating
inflation pressures will be better positioned to benefit from the positive DM demand
impulse. Here, the CE-3 and Romania, and to some extent South Africa, may be at an
advantage, given the presence of sizeable output gaps, which have kept core inflation
pressures subdued over the past few years. Accordingly, we expect respective central
banks to reinforce accommodative monetary policy through most of 2014/2015.
Exhibit 11: Output gaps will provide a stronger foundation for recovery
Output Gap estimates, end 2013 (% of GDP)

% of potential GDP

0
1
2
3
4
5
Israel

Turkey Russia

South
Africa

Poland Hungary Romania Czech Ukraine


Rep.

Source: Goldman Sachs Global Investment Research

In contrast, Israel has little excess capacity and may therefore quickly start generating
stronger inflationary pressures, as aggregate demand conditions improve. Accordingly, we
expect the BoI to start tightening monetary policy from 2014Q4 onwards, ahead of its peers
in the region.
In Russia, core inflation remains sticky, inflation expectations elevated and the labour
market tight, which inhibits the economys ability to expand beyond the potential growth
rate. However, with Russias export sector concentrated in relatively capital-intensive
commodity industries, an export expansion arguably only affects the economy-wide output
gap more indirectly through wealth effects and the potential for looser budget policies on
the back of higher tax revenues. Yet, we expect the CBR to deliver moderate monetary
tightening in 2014, mainly in an effort to anchor inflation expectations and establish its
inflation targeting credentials.
Goldman Sachs Global Investment Research

November 22, 2013

CEEMEA Economics Analyst

Finally, in Turkey, the output gap is very small (if it exists at all). But we expect this to
change quickly through 2014 and 2015, as the economy slows down. However, exchange
rate pass-through to domestic prices will continue to generate inflation pressures in due
course. Only in 2015H2 do we expect to see a more tangible improvement in underlying
inflation dynamics, as the necessary exchange rate adjustment comes through and a
sizeable output gap starts to generate strong disinflationary pressures. We therefore expect
a switch in monetary policy around mid-2015, with the CBRT starting to ease rates.

Exhibit 12: CEEMEA inflation and rate forecasts, 2014-2017

CPI inflation (average, %yoy)

Policy rate (%,eop)

2014
0.6

2015
1.9

2016
2.1

2017
2.0

2014
0.05

2015
0.50

2016
1.25

2017
1.25

Hungary

1.3

3.0

3.3

3.3

3.25

4.25

4.50

4.50

Israel

2.5

3.0

2.5

2.1

1.50

2.50

3.00

4.00

Nigeria

7.0

6.2

5.8

5.5

11.50

10.50

10.50

9.00

Poland

2.0

2.0

2.3

2.4

2.75

3.50

3.50

3.50

Romania

2.0

2.3

2.2

2.4

3.75

3.75

4.00

4.25

Russia

5.5

5.1

4.7

4.4

5.75

6.00

6.50

6.50

South Africa

5.9

5.8

5.6

5.7

5.00

6.50

8.50

8.50

Turkey

7.7

7.2

6.1

6.5

5.50

9.00

9.50

9.50

Ukraine

4.3

5.9

5.6

5.7

Czech Republic

Source: Goldman Sachs Global Investment Research

Ukraine probably has one of the largest output gaps in the region and, not surprisingly,
record low inflation. However, with the country operating under a peg, which is under
pressure from the market, this exchange constraint needs to be relaxed before the country
can benefit from a loosening of financial conditions.
Varying fiscal impulses will also determine the pace of recovery. In 2013, the fiscal
drag eased quite significantly across the CE-3 and Romania a key factor that has helped
support the nascent recovery. In contrast, in Russia fiscal policy tightened significantly,
reinforcing the slowdown. In 2014, we expect fiscal policy to become increasingly growthfriendly in a number of places. The CE-3 and Romania should benefit further from easing
fiscal drag. Importantly, the drag will become less severe in Russia and contribute to the
(forecast) recovery in growth. Likewise in Turkey, we expect fiscal policy to loosen
moderately through the two-year election cycle. But fiscal policy will be constrained by
external imbalances and its net contribution to GDP growth is likely to be neither material
nor sustainable. In contrast, South Africa will likely undertake some moderate fiscal
consolidation, which would help check external imbalances, on the margin.

Goldman Sachs Global Investment Research

10

November 22, 2013

CEEMEA Economics Analyst

Exhibit 13: CEEMEA FX forecasts 2014 and 2015-2017

3-Month Horizon

6-Month Horizon

12-Month Horizon end-2015 end-2016 end-2017

Forward Forecast Forward Forecast Forward Forecast

Forecast

Czech Republic

EUR/CZK

27.20

27.00

27.18

27.00

27.14

27.00

25.50

25.00

24.50

Hungary

EUR/HUF

299.74

300.00

301.41

305.00

305.06

310.00

315.00

315.00

315.00

Israel

USD/ILS

3.57

3.55

3.57

3.55

3.58

3.45

3.45

3.45

3.45

USD/NGN

162.65

160.00

171.22

165.00

185.93

185.00

205.00

225.00

245.00

Poland

EUR/PLN

4.22

4.25

4.24

4.20

4.29

4.10

4.10

3.90

3.90

Romania

EUR/RON

8.25

4.40

8.26

4.40

8.32

4.40

4.27

4.14

4.02

Russia

USD/RUB

33.52

31.60

34.00

31.40

35.03

32.20

33.70

36.10

38.00

South Africa

USD/ZAR

10.28

10.40

10.42

10.60

10.72

10.90

11.25

11.50

11.50

Turkey

USD/TRY

2.06

2.10

2.09

2.20

2.18

2.40

2.50

2.30

2.20

Ukraine

UAH/USD

8.58

9.20

8.96

10.30

9.68

10.30

9.80

9.60

8.90

Nigeria

Source: Goldman Sachs Global Investment Research

Policy credibility to play a crucial role. Countries like South Africa, the Czech Republic
and Poland, with a history of a fairly predictable and stable policy framework, and
countries like Romania that operate inside an IMF program, will probably be able to cope
with financial shocks better. Turkey, Hungary and Ukraine may be running varying degrees
of credibility risk, given the less orthodox and less predictable policy frameworks they have
adopted in recent years.
The most interesting case in CEEMEA is Russia, in our view. Policy credibility has not been
one of Russias strongest points in recent years. However, this is slowly changing, with the
overall policy frameworks of the CBR and the Russian Ministry of Finance becoming far
better organized. This has already had a positive impact on domestic fixed income markets,
which have held up relatively well during the recent EM sell-off. Russias current reform
program, which is arguably the most ambitious in recent history and within the broader
EM complex, could help further governance systems and transparency both in the public
and in the corporate sector, and thus bolster investor confidence. Of course, the pace, exact
content and subsequent implementation of actual reforms will hold the key to realising this
potential. Yet, the governments close focus on reforms is encouraging, and this underpins
our more constructive view on Russias equity market (see below).

CEEMEA market themes for 2014


Within this broad framework, we see a number of more specific macroeconomic/market
themes:

Intra-CEEMEA desynchronisation - Russia vs Turkey: This is a new and key


market theme for the year ahead. Our growth forecasts differ the most and are
most out of consensus with respect to the two largest economies of the region:
Turkey and Russia. We expect Turkey to enter an extended period of below-par
growth to address its well-documented imbalances of above-target inflation and
large external leverage. The adjustment process will be undermined by an
extended, two-year election cycle, which could increase the risk of policy mistakes
along the way. Meanwhile, we expect the Russian economy to accelerate towards
its trend growth rate of 3.5% by 2015 on the back of improving external and
especially domestic demand (particularly investment and public-sector
expenditure) conditions. As discussed above, we expect gradual reform and a
sustained improvement in the overall policy framework. This creates a clear
tension between the two equity markets, and sets the ground for Russian
outperformance.

Goldman Sachs Global Investment Research

11

November 22, 2013

CEEMEA Economics Analyst

Exhibit 14: Strong growth divergence between Russia


and Turkey

Exhibit 15: underpinned by stronger BoP positions


CA/GDP (RHS) and NIIP/GDP (LHS) Turkey vs Russia

Growth differentials (quarterly, yoy % ) Turkey vs Russia


13
11
9

Turkey-Russia differential
Russia
Turkey

7
5
3

20

10

10

-10

-5

-20

-10

-30

-15

-40

-20

1
-1

-50

-3

-60

Russia: NIIP

Turkey: NIIP

Russia: CAD

Turkey: CAD

08

Source: Goldman Sachs Global Investment Research

09

10

11

-25
-30

12

Source: Haver Analytics, Goldman Sachs Global Investment Research

Still bearish on the TRY: This has been one of our top Conviction Views over
the past year and we believe it is still valid. The TRY has depreciated significantly
(by about 12% in trade-weighted terms) since April 2013 an adjustment that will
contribute to a rebalancing of the economy through 2014. However, the
imbalances were large to start with, and further TRY weakness is required to help
ensure long-term external sustainability. The CBRT has been tightening monetary
policy and will probably do more through 2014. But persistent (if moderating)
current account imbalances, wide inflation differentials, weak productivity growth
and a rapidly deteriorating growth outlook will continue to weigh on the TRY in the
coming months. We continue to forecast the TRY at 2.40 on a 12-month horizon,
although the pace of depreciation will depend largely on the robustness of the
CBRTs policy response, as well as potential shifts in EM risk sentiment.

Exhibit 16: TRY to remain under depreciation pressure


$/TRY, Spot, GS forecasts relative to forwards

2.50

USD/TRY
Market

GS Forecast

2.40

2.30

2.20

2.10

2.00
Current

3m

6m

12m

Source: Bloomberg, Goldman Sachs Global Investment Research

Goldman Sachs Global Investment Research

12

November 22, 2013

CEEMEA Economics Analyst

Exhibit 17: Inflation pressures to re-intensify in Israel

Exhibit 18: on the back of a tight labour market in 2014

CPI Inflation; realized and GS Fcast.

Israel unemployment rate and real wage growth

6%

4%

CPI inflation (yoy, in %)

5%

3%

4%

2%

3%

1%

2%

0%

1%

-1%

0%

-2%

Average productivity
growth per worker
(1996Q1-2013Q2)

11%
Unemployment rate
10%
9%
8%
7%

BoI Inflation Target


yoy
F'cast (yoy)

-1%
-2%

Real Wage growth


Real wage growth (yoy), lhs
Real wage growth (6mma), lhs
Unemployment, rhs

-3%
-4%

07

08

09

10

11

12

13

14

15

Source: Haver Analytics, Goldman Sachs Global Investment Research

6%

08

09

10

11

12

5%
4%

13

Source: Haver Analytics, Goldman Sachs Global Investment Research

Inflation-less recovery in CE-3 and Romania Part II: This is also last years
theme but it is still highly relevant. The Inflation-less recovery has played out to a
large extent in 2013, with CE-3 equity markets performing strongly and local rates
markets continuing to steepen, in response to central bank easing. However, it still
can define the improving outlook for the CE-3, as recovery gains further
momentum, against the backdrop of subdued inflation pressures and generally
accommodative monetary policy. However, we are more inclined to think of this as
an equity theme, given the extent of the rate market moves across CEEMEA and in
line with our more constructive views on EM equities in general. Stronger growth
and improved financial metrics could also be supportive of the CE-3 currencies,
particularly the PLN, although this is likely to be more of a theme for 2014H2, when
we expect the NBP to move to a tightening bias.

Inflationary recovery in Israel: Israel has weathered the Euro area crisis
reasonably well and continued to grow steadily over the past 12 months. The
slowdown in net exports was compensated largely by domestic demand growth,
reinforced also by natural gas production. There is currently no excess capacity in
the economy (we estimate a moderately positive output gap) and, as external
demand conditions improve and the economy changes gear through 2014, we
expect inflation pressures to become increasingly more apparent ultimately
prompting the BoI to withdraw the excess monetary stimulus it provided over the
past two years, which was also motivated by intensifying appreciation pressures
on the ILS. Our current rate forecasts are slightly above the forwards, but the
market can re-price the curve aggressively as inflation pressures become more
visible. We also maintain our long-held constructive ILS views, although we see
scope for increasingly aggressive BoI interventions.

Goldman Sachs Global Investment Research

13

November 22, 2013

CEEMEA Economics Analyst

Exhibit 19: ZAR weakness could help support equity market


135

Index
(1/1/2013=100)

130

GS forecast
(Trend of USDZAR depreciation)

125
120
USDZAR
Equity return

115
110
105
100

2013: highest equity return (local currency)


and worst FX performance across EM

95
90
Jan-13

Apr-13

Jul-13

Oct-13

Jan-14

Apr-14

Jul-14

Oct-14

Source: Haver Analytics, Goldman Sachs Global Investment Research

FX weakness and stronger equity returns in South Africa: In South Africa,


the bond market tends to provide the primary shock, while the currency serves as
the transmission mechanism and equities act as a stabilising force. During the
2013 sell-off, this pattern was quite clear: the bond sell-off weakened the Rand and
this, in turn, improved the attractiveness of a significant number of dual-listed
stocks and of companies with large revenues in hard foreign currencies. Their
outperformance led to a strong equity rally during the bond sell-off. Such a
mechanism could prove useful again, as the Fed tapering seems ineluctable and
similar shocks could occur again. Despite the relatively high PE ratio in South
Africa (relative to other EM), there could be some scope for further equity
performance.

Ukraine and the bail-out: Ukraine has successfully muddled through the past
two years without macroeconomic adjustment, as the current account deficit has
widened to 8% of GDP and FX debt repayments have been a drag on reserves,
which have fallen by nearly 50% to US$21bn and close to 2.5 months of import
cover. However, with a very considerable external financing gap for 2014 a
current account deficit of some 7% of GDP and public FX debt repayments of 5%,
amounting to around US$20bn and likely without market access in a world of
rising UST yields, we think Ukraine is fairly unlikely be able to continue with the
same strategy until presidential elections in March 2015. Our view remains that
lower reserves will eventually generate pressure on the Hryvnia, which in turn will
ultimately lead the authorities to re-engage with the IMF, agree to a loan
agreement and devalue the UAH by around 30%. However, long-standing strong
opposition in the government to policy conditionality will likely imply a rocky road
to an IMF deal. Hence, we maintain a cautious outlook on Ukrainian sovereign debt
and believe that the NDF market may be under-pricing devaluation risks.

Goldman Sachs Global Investment Research

14

November 22, 2013

CEEMEA Economics Analyst

The risks to our views and where we could be wrong


The risks to our views arise largely from two key factors. First, the DM, and particularly the
Euro area, recovery may not come through as strongly as we currently forecast. This could
compromise the nascent CEEMEA recoveries, particularly in the CE-3, Romania and Israel.
Second, forward guidance provided by core central banks may prove to be less effective
and result in a bear-flattening of the core yield curves. This could create significant market
volatility and again undermine the recoveries we forecast across CEEMEA. This risk would
obviously have a disproportionate adverse impact on the leveraged CEEMEA economies
running larger imbalances, namely Turkey, South Africa and Ukraine.
However, it is very likely that a materialisation of either of these risks would prompt core
central banks to provide strong monetary accommodation, which could quickly help
reverse initial financial shocks and alleviate potential BoP pressures. Local central banks
would also respond by providing monetary stimulus for longer (CE-3, South Africa and
Israel) and/or by easing monetary conditions (Turkey). This would result in further
steepening of respective yield curves and (perversely) help stabilise more vulnerable
currencies.
We also see a number of idiosyncratic risks, mostly related to politics. The political risks are
clear in the Ukraine, where we forecast that the country will eventually engage with the IMF.
However, there is an important presidential election coming up in spring 2015, which may
undermine the authorities ability to agree to IMF conditionality and force the leadership to
take risks. In Russia, while there is no election, the effort to execute deep reforms are not
without risks and can lead to significant short-term volatility in markets and individual
asset prices.
In the CE-3, Hungary will also hold elections in spring 2014. The election currently does not
seem to be heavily contested, as the current Fidesz government is comfortably leading in
the polls (despite some loss of popularity). However, in the run-up to elections increasingly
unorthodox policies and potential slippages could undermine investor confidence, leading
to market volatility. Poland faces four elections (European, municipal, presidential and
parliamentary) in 2014-2015. The governing coalition is lagging in the polls, which
increases the risk that the structural reform agenda is diluted, undermining long-term fiscal
stabilisation. Romania will hold presidential elections towards the end of next year. This
could be more a case of policy risks reducing as polls suggest that the election will end the
difficult cohabitation between the president and the government.
Lastly, Turkey will go through a prolonged two-year election cycle, starting with municipal
elections in March 2014, presidential elections in August 2014 and general elections in mid2015. This process could be prone to intense political noise and policy slippage.

CEEMEA Macro Team

Goldman Sachs Global Investment Research

15

November 22, 2013

CEEMEA Economics Analyst

Macroeconomic, interest rate and exchange rate forecasts


CEEMEA Main Macro Forecasts

Czech Republic
Hungary
Israel
Nigeria
Poland
Romania
Russia
South Africa
Turkey
Ukraine

2012

2013

-1.2
-1.7
3.4
6.5
2.1
0.7
3.4
2.5
2.2
02

-1.5
1.1
3.4
6.5
1.4
2.4
1.5
2.2
4.5
12

GDP (%yoy)
2014
2015
1.7
1.8
3.7
7.0
2.9
2.7
3.0
2.8
2.0
04

2016

2017

2012

2.6
2.2
3.6
5.8
3.4
3.2
3.6
3.6
5.8
37

2.4
1.9
3.2
5.5
3.2
3.5
3.7
3.5
5.0
42

3.3
5.7
1.7
6.5
3.7
3.3
5.1
5.7
8.9
06

2.4
1.9
4.0
6.2
3.2
3.1
3.6
3.4
1.8
50

Consumer Prices (%yoy)


2013
2014
2015
2016
1.4
1.8
1.6
6.5
1.0
4.1
6.5
5.8
7.6
04

0.6
1.3
2.5
7.0
2.0
2.0
5.5
5.9
7.7
43

1.9
3.0
3.0
6.2
2.0
2.3
5.1
5.8
7.2
59

2.1
3.3
2.5
5.8
2.3
2.2
4.7
5.6
6.1
56

2017
2.0
3.3
2.1
5.5
2.4
2.4
4.4
5.7
6.5
57

Policy Rate Forecasts


Forecast (%, eop)
Current

Q4 13

Q1 14

Q2 14

Q3 14

2015

2016

2017

0.05
3.40

0.05
3.00

0.05
3.00

0.05
3.00

0.05
3.00

0.50
4.25

1.25
4.50

1.25
4.50

Czech Republic
Hungary

2-week repo rate


2-week deposit rate

Israel

Repo rate

1.00

1.00

1.00

1.00

1.25

2.50

3.00

4.00

Nigeria

Monetary policy rate

12.00

12.00

12.00

11.50

11.50

10.50

10.50

9.00

Poland

7-day intervention rate


1-week repo rate

2.50

2.50

2.50

2.50

2.50

3.50

3.50

3.50

Min 1-week repo rate

4.00
5.50

4.00
5.50

3.75
5.50

3.75
5.50

3.75
5.50

3.75
6.00

4.00
6.50

4.25
6.50

Repo rate

5.00

5.00

5.00

5.00

5.00

6.50

8.50

8.50

Romania
Russia
South Africa

Exchange Rate Forecasts


6-Month Horizon

3-Month Horizon
Current*

Forward*

Forecast

Forward*

Forecast

12-Month Horizon
Forward*

Forecast

Czech Republic

EUR/CZK

27.23

27.20

27.00

27.18

27.00

27.14

27.00

Hungary

EUR/HUF

297.98

299.74

300.00

301.41

305.00

305.06

310.00

Israel
Nigeria

USD/ILS

3.56

3.57

3.55

3.57

3.55

3.58

3.45

USD/NGN

158.65

162.65

160.00

171.22

165.00

185.93

185.00
4.10

Poland

EUR/PLN

4.19

4.22

4.25

4.24

4.20

4.29

Romania

EUR/RON

4.45

8.25

4.40

8.26

4.40

8.32

4.40

Russia

USD/RUB

32.99

33.52

31.60

34.00

31.40

35.03

32.20

South Africa

USD/ZAR

10.14

10.28

10.40

10.42

10.60

10.72

10.90

Turkey

USD/TRY

2.02

2.06

2.10

2.09

2.20

2.18

2.40

Ukraine

UAH/USD

8.22

8.58

9.20

8.96

10.30

9.68

10.30

* Close 21 November 13

Global interest and exchange rate forecasts


3-Month Horizon
Interest Rates (%)
Euro Area
US

3M
10Y
3M
10Y

6-Month Horizon

12-Month Horizon

Current*

Forward*

Forecast

Forward*

Forecast

Forward*

Forecast

0.17
1.77
0.24
2.79

0.23
2.14
0.25
2.99

0.20
2.30
0.30
3.00

0.25
2.22
0.27
3.11

0.20
2.40
0.30
3.15

0.31
2.38
0.36
3.35

0.20
2.55
0.30
3.40

1.35
136.09
1.23
0.83

1.35
136.02
1.23
0.83

1.38
135.24
1.25
0.82

1.35
135.97
1.23
0.83

1.40
144.20
1.28
0.83

1.35
135.84
1.23
0.84

1.40
149.80
1.28
0.85

Exchange Rates
EUR/$
EUR/
EUR/CHF
EUR/

*Close at 22 Nov 2013. We are currently using Mar 2014, Jun 2014, and Dec 2014 contracts for 3-month forward rates.

Source for all tables: Goldman Sachs Global Investment Research, Bloomberg.

Goldman Sachs Global Investment Research

16

November 22, 2013

CEEMEA Economics Analyst

Conviction Macro Views


Turkey: USD/TRY

Turkey: Structurally bearish on the TRY


We maintain our fundamental, bearish TRY views. We forecast the
$/TRY at 2.1, 2.2 and 2.4 in 3, 6 and 12 months, and 2.5 in 2015. The
TRY remains undermined by large (external and domestic) imbalances,
and is therefore still susceptible to external shocks. This means that
the exchange rate will have to undergo a significant adjustment as the
core central banks move closer to normalising policy over the next few
years. However, in the short term, BoP pressures may ease, helping
the TRY to appreciate. In particular, the postponement of the Fed
taper from September further out to December (and possibly beyond)
and the CBRTs more hawkish policy stance may help provide
additional support to the TRY posing downside risk to our short-term
$/TRY forecasts. But ultimately this would reverse a healthy FX
adjustment and render it more challenging to rebalance the economy.
Over the medium term, fundamental pressures are likely to continue to
drive the TRY weaker.

Israel: Structurally constructive on the Shekel;


Hiking cycle on the horizon
We continue to hold a long-term (structural) constructive view on the
Shekel and maintain our 12-month 3.45 USD/ILS forecast. This view is
underpinned by Israels strong macro fundamentals and the continued
improvement in the current account (partially driven by the natural gas
production from the Tamar field). Furthermore, we also expect the
Bank of Israel (BoI) to begin a gradual hiking cycle in 3Q2014 (50bp in
2014 and 100bp in 2015). This should provide additional support to the
currency, notwithstanding that the Bank will likely attempt to dampen
resulting appreciation pressures, via its US$3.5bn low cost Gas FX
intervention program for 2014. The BoIs highly accommodative
monetary policy stands in clear contrast to the low degree of slack in
the domestic economy. CPI inflation surprised on the upside in
October (1.8%yoy, up from 1.3% in September) and we expect the
deterioration in the inflation outlook to continue in 2014, following an
improvement in exports and economic activity. We believe that this,
combined with a rise in exports and continued concern about the
housing market, will trigger a hiking cycle. Currently, market pricing is
more dovish than the trajectory implied by our rate forecasts.

Goldman Sachs Global Investment Research

2.05

USD/TRY

1.95
1.85
1.75
1.65
1.55
1.45
1.35
1.25

09

10

11

12

13

Source: Bloomberg.

Israel: USD/ILS
4.40

ILS/USD

4.20
4.00
3.80
3.60
3.40
3.20
3.00

07

08

09

10

11

12

13

Source: Bloomberg.

17

November 22, 2013

CEEMEA Economics Analyst

Ukraine: UAH 3m NDF implied yield

Cautious on Ukraine in the medium term


In the medium term, we continue to think that Ukraines external
imbalances (7% of GDP current account deficit and 5% FX debt
repayments) are ultimately unsustainable and will require
significant macroeconomic adjustment. We expect reserves to
continue to decline towards US$17-18bn at year-end and at a pace
of around US$1-1.5bn/month thereafter. Thus, we eventually
expect this decline in reserves to cause pressure on the currency
to mount and to lead the authorities to choose to enter into an IMF
program. In addition, the recent announcement from Ukraines
Cabinet of Ministers that it has suspended preparations for
signing the EU Association Agreement implies greater uncertainty
about the strategy of the Yanukovich administration vis--vis the
EU and IMF.

Hungary: Long-term bearish on the Forint


The Forint remains sensitive to demand for EM assets and the
outlook for global rates. However, the MPCs more cautious tone,
still-positive real rates, a current account surplus, and a more
dovish Fed and ECB are shielding the Forint for now. But, in the
longer term, the structural drivers of the currency remain
unchanged and the Forint will likely continue to suffer from FX
deleveraging and lower potential economic growth. The rate
differential, which has narrowed further on the back of more cuts
this year and higher US rates, could also start to erode demand
for Hungarian assets. Moreover, while Forint weakness appears to
be one of the policy objectives for the future, the government and
the NBH are likely to be unwilling to allow the Forint to depreciate
yet, before further reducing households and the governments FX
sensitivity and in any case not before the next elections in early
2014. That said, the NBHs tolerance for FX depreciation has
gradually increased.

Goldman Sachs Global Investment Research

60

UAH 3m NDF
Implied Yield

50
40
30
20
10
0

10

11

12

13

Source: Bloomberg.

Hungary: Current Account surplus has limited


the recent sell-off but the fundamentals and
policies point to more weakness ahead

320.00

HUF/EUR

300.00
280.00
260.00
240.00
220.00
200.00

07

08

09

10

11

12

13

Source: Bloomberg.

18

November 22, 2013

Russia: Cautious on the Ruble and constructive on


equities and credit
Russian growth is set to improve in the coming quarters, driven by a
more supportive external environment, less fiscal drag and easier
financial conditions (as dividends from the CBRs disinflation policy
transmit to lower inflation expectations and risk premia and,
ultimately, lower real interest rates). With consumption growth
remaining strong, albeit declining marginally, and exports picking up,
we expect investment to follow suit, after several quarters of weakness
while the ongoing destocking comes to an end. Importantly, we think
the Russian policy framework is becoming more rules-based and
predictable, and that structural reforms are gradually gaining traction
with investors. We think the context of a country with low debt,
improving growth and declining inflation should be supportive of the
equity market, especially in sectors that are geared toward exports. In
addition, for many of the same reasons, we maintain a constructive
view on Russian sovereign credit. While an improving growth
environment would also generally be supportive of the countrys
currency, in this case we think there are important reasons why the
Ruble is likely to continue to underperform. First, the CBR has stated
that it intends to improve the monetary transmission mechanism by
working to push interbank rates down by 50-100bp towards the policy
rate. While it has employed several tools in its attempt to do so, in our
view, the remaining constraint is bearish local sentiment towards the
Ruble, coupled with the CBRs FX interventions, which the Bank
intends to abandon by end-2014. In our view, the logical next step is to
accelerate and complete the move towards a flexible Ruble by May
2014, and this should precipitate a weakening in the currency.

Nigeria: Structurally bearish on the Naira, but shortterm constructive on carry and neutral on
sovereign credit

CEEMEA Economics Analyst

Russia: Strong macro fundamentals support


a tighter CDS spread
350
300
250
200
150
100

Goldman Sachs Global Investment Research

11

12

13

Source: Bloomberg.

Nigeria: Strong structural real appreciation


300

250

Nigeria belongs to our Africa 11 list of economies with the highest


growth potential in the region, but it also has significant vulnerabilities
to EM risk appetite and oil shocks. Hence, we are fundamentally
bearish on the Naira. However, in the short term the authorities
(supported by high oil prices) will likely hold the peg in the NGN/USD
155 +/- 3% range. FX pressures have eased in the past month and the
current spot (NGN/USD 159) is back within that range. This implies
attractive carry for investors in the tradable local debt markets, with
the benchmark 10-year yield around 12.6%. We are more neutral on
Nigerian sovereign credit, which is priced at a premium relative to its
global EM peers (like Africas average). This premium can broadly be
explained by better macroeconomic factors, which suggests that
Nigerian Eurobonds are currently priced in line with macro
fundamentals.

5y CDS Spread

Trade-weighted
real exchange rate
(Jan-95 = 100)

200

150

100

Naira real
appreciation

50
95

97

99

01

03

05

07

09

11

13

Source: Bruegel.

19

November 22, 2013

CEEMEA Economics Analyst

Disclosure Appendix
Reg AC
We, Ahmet Akarli, Clemens Grafe, Magdalena Polan, JF Ruhashyankiko, Kasper Lund-Jensen, Andrew Matheny and Mark Ozerov, hereby certify that
all of the views expressed in this report accurately reflect our personal views, which have not been influenced by considerations of the firm's
business or client relationships.

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