For Ukraine’s neighbors, the financial consequences of the war that began 14 months ago are beginning to pile up as energy subsidies are provided, armies are expanded, and Ukrainian refugees are housed, educated and fed.

To pay all these bills, Eastern European governments are accessing international financial markets at an unprecedented rate.

Last year, loans to Eastern European governments tripled

According to Bloomberg, Eastern European governments have already borrowed $32 billion this year, three times more than in the same period last year.

In addition, for the first time in ten years, three countries of Eastern Europe – Poland ($9 billion), Romania ($6 billion) and Hungary ($5 billion) – entered the top five largest external borrowers in developing markets.

But the moment he borrows is not great. After central banks around the world raised interest rates rapidly over the past year, it has become much more prohibitive to borrow in bond markets, even for highly rated sovereigns like those in Eastern Europe. For example, Poland borrows at 5.5% per annum on its new 30-year bonds. For comparison, in 2021, Poland borrowed for the same type of bonds at an interest rate of less than 4% per year.

The increase in the interest rate will only worsen the already large budget deficit of the countries of the region and will create even greater pressure on the finance ministers. In addition, if the Russian invasion of Ukraine continues or escalates and requires even more debt financing in the region, investors may no longer want to buy new bonds that will flood the market.

Polish dollar bonds with yields similar to those countries considered risky

There are already signs that investors are already somewhat reluctant to start. Poland’s dollar-denominated bonds are now trading at yields similar to those of countries considered risky: the Philippines, Indonesia and Uruguay.

According to Bloomberg estimates, Eastern Europe’s budget deficit will increase to 4.3% of the region’s GDP this year from 1.3% of GDP in 2021.

• “The war hit the budget deficit on both sides. This slows economic growth, which reduces the revenue received by the government, and on the expenditure side, governments have to help those affected by the increase in the cost of living,” said Daniel Wood, portfolio manager at William Blair International.

Reorientation to foreign financial markets is taking place at a time when inflation is destroying the economies of Eastern Europe. This development, in turn, was facilitated by the war, which led to the cessation of supplies of Russian energy carriers to the region.

Annual inflation has risen to around 20% in some countries, a level unprecedented in recent decades, which has pushed interest rates in the local market to levels well above those in the US and Western Europe. For example, in Poland, the largest economy in the region, 10-year bonds are now yielding 6% on the local market, four times what they were two years ago.

However, selling bonds in foreign markets involves risk that is not present in the local market. If the currencies of the countries in the region fall against the dollar, as we have done for many years, this will increase the debt service costs for the governments of the region.

ING analysts predict that Hungary is in a “comfortable” position that allows it to no longer have access to foreign markets in 2023. On the other hand, it is quite possible that Romania will have to enter foreign markets again this year.

(Source: Agerpres / Photo: Dreamstime.com)