The three countries are running big current account deficits (CADs): 8.1% of GDP for Croatia, 10.3% for Romania and 16.3% for Bulgaria in 2006. But export growth has been strong, averaging 12% a year from 2000 to 2006 in Croatia and 21% a year in Bulgaria and Romania. Trade deficits have grown because imports have risen even more quickly to meet soaring domestic demand. Fiscal loosening in Croatia and Romania is adding to demand pressures in those economies, while Bulgaria ran a prudent fiscal surplus of 3.3% of GDP in 2006.
Rising CADs need to be financed with ever greater inflows of foreign capital. Positively for the health of the external finances, all three countries are financing most of their CADs from foreign direct investment ("FDI"). FDI inflows into Bulgaria totalled 128% of the cumulative CAD over 2000-2006 (against 75% for Romania and 78% for Croatia).
But gross external debt is still growing relative to GDP despite the strength of FDI inflows, mainly driven by external borrowing by the banking systems, fuelling rapid bank credit growth. Fitch notes that all three countries' banking sectors are largely foreign-owned, mitigating the risks from the run-up in banks' external borrowing.
External solvency is not a near-term threat in any of the three. Croatia is in the weakest position to withstand any future shocks, with the highest gross external debt and the widest net liability in its international investment position, relative to GDP. Bulgaria and Romania compare favourably with rated peers on external liquidity measures, while Croatia again fares less well on this assessment.
"Ultimately, external imbalances on this scale are unsustainable and will need to be corrected at some stage," said Mr Colquhoun. "While the risk remains of a disorderly correction in response to some future shock, developments are consistent with a gradual adjustment as the three countries converge with west European living standards."
