Economic Impact of Central European Floods

By Jan Lopatka, Karol Badohal and Gergely Szakacs

PRAGUE/WARSAW (Reuters) – Just a week ago, before deadly floods swept through central Europe, the Czech Republic looked set to become the first country in the region since COVID-19 to reduce its budget deficit below the EU’s 3% of GDP cap. However, this achievement is now uncertain as the Czech Republic and Poland, heavily affected by the floods, assess the damage from the worst flooding in two decades.

Local officials estimate infrastructure damage could total $10 billion in both countries. Poland’s finance minister mentioned that the $5.6 billion allocated from EU funds would help but would not cover all recovery costs.

The economic fallout from extreme weather is exacerbating fiscal strains in a region still recovering from the pandemic and grappling with inflation from the conflict in Ukraine. During the pandemic, EU member states suspended the deficit limit, resulting in budget shortfalls ballooning to 9% of GDP in Romania and 7% in Poland and Hungary.

The situation is worsened by inflation and upcoming elections in Poland, Hungary, and Romania, which often involve political promises to increase spending. Additional pressures include military expenditure, inflation-indexed pensions, and rising debt servicing costs.

On Thursday, the Czech finance ministry announced a 30 billion crowns ($1.3 billion) allocation for flood relief in its 2024 budget, raising estimates by 25%. This adjustment could push the Czech deficit closer to compliance with EU rules, going from an initial target of 2.5% to above 3%.

Steffen Dyck, Senior Vice President at Moody’s Ratings, noted that while the region is better prepared for flooding than before, the frequency and economic impact of such incidents are on the rise, prompting immediate fiscal support from governments. The flood’s financial damage underscores the challenges faced by other Eastern EU countries, many with deficits above 5%.

LONG-TERM VIEW

A Reuters analysis indicates that Poland and Hungary may take until the end of the decade to bring deficits below 3%, while Romania might not achieve this until the 2030s. Moody’s forecasts that Poland’s debt could rise to 60% of GDP by 2027 due to increased borrowing, impacting future expenditures.

Spending pressures in Poland have been labeled greater than expected after the 2025 budget draft was released, although a robust revenue base does provide some support. The floods have compounded challenges for the region, which is already feeling the effects of a weak German economy, impacting 20-30% of Central Europe’s exports.

Karen Vartapetov from S&P Global warns that prolonged economic weakness in Germany could hinder growth prospects in Central and Eastern Europe, putting more pressure on public finances amid high government funding costs.

Debt servicing costs surged last year in Hungary to 4.7% of GDP and 2% in Poland and Romania, while the Czech Republic maintains a lower rate at 1.3% of GDP. Romania’s 2025 budget is yet to be announced, with discussions around a seven-year plan to reduce its high deficit levels possibly reaching up to 8% this year because of pension reforms. Hungary, which has averaged a nearly 7% budget deficit since the pandemic, aims to reduce this to 4.5%, though forecasts suggest it may remain higher.

($1 = 22.5380 Czech crowns)
($1 = 3.8235 zlotys)
($1 = 0.8949 euros)