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World Bank ECA Economic Update Fall 2021
pressures have further constrained the capacity of some central banks to buffer the impact of additional negative external shocks, with more than one-half of the region’s economies forced to raise policy rates in 2021. Meanwhile, global supply disruptions and shipping bottlenecks have also exerted upward pressure on prices in ECA. In an environment of sustained, above-target inflation, a sharper erosion of investor sentiment could abruptly tighten financing conditions and lead to cascading defaults and rising nonperforming loans. Corporate balance sheet pressures have continued to rise as authorities unwind liquidity support and regulatory forbearance, putting strain on the banking sector. A slower-than-expected recovery in the euro area, ECA’s largest trading partner, could generate negative spillovers in economies with tightly linked trade and financial ties (Elekdag, Muir, and Wu 2015; World Bank 2016). Moderating growth in China could be propagated through trade and commodity price channels to Central Asia, as well as metals exporters in the ECA region, which are increasingly reliant on China as an export destination. The region’s energy exporters—Azerbaijan, Kazakhstan, and Russia—remain vulnerable to large swings in global commodity prices, particularly when accompanied by heightened volatility (van Eyden et al. 2019). The possibility of intensifying geopolitical tensions is also a downside risk in ECA, and could be accompanied by additional sanctions and financial market pressures. The region could be destabilized by an escalation of conflict in Ukraine or between the Kyrgyz Republic and Tajikistan, elevated stability risks following armed conflict between Armenia and Azerbaijan, and security challenges in neighboring Afghanistan—the latter of which could generate a disorderly influx of migrant refugees into ECA. The effects of sectoral economic sanctions on Belarus’s economy or additional political pressures in the Kyrgyz Republic could weaken the outlook in Eastern Europe and Central Asia. Disagreements between the European Union and other major economies could also lead to additional sanctions that could have spillover effects on some ECA countries. A further rise in policy uncertainty, particularly in some of the region’s large economies, could also undermine the recovery if it triggers financial stress.
Long-Term Challenges and Policies The long-term outlook for EMDEs in ECA will likely be dampened by the pandemic’s lasting legacies. Productivity growth had been projected to lose momentum even before the COVID-19 crisis, and this trend is likely to be exacerbated by the scarring effects of the pandemic. Entrenching a green, resilient, and inclusive development path will require measures that rekindle productivity growth, while also addressing the scars from the pandemic and challenges of climate change. A comprehensive approach to reinvigorate productivity growth includes policies that facilitate technological adoption and innovation among firms, promote competition in a growth-friendly macroeconomic and institutional environment, and bolster investment in physical and human capital—all while protecting vulnerable groups. In addition, investments in green infrastructure can help achieve development goals and improve resilience to climate change.
