Why economic power is moving east in Europe too

Eastern European wealth and influence is catching up on their western peers, says Matthew Lynn.

We are already familiar with the idea that economic power is moving east. In the last few decades, the Tiger economies, with their turbo-charged growth, low debts and modest government spending, have all easilyout-stripped the more sluggish economies of the West.

When we say power and wealth are moving east, we usually mean the Far East. But without anyone noticing very much, a similar shift is now underway in Europe as well. East European capitals such as Warsaw, Prague and Bratislava are now wealthier than Vienna, according to research by the Brussels-based think-tank Bruegel.

It is now nearly a quarter of a century since the Berlin Wall came down, liberating eastern Europe from Russian domination, and it is a decade since most of those countries joined the EU.

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While the British debate on the issue is usually dominated by claims by Ukip and others that millions of poor eastern Europeans will continue to move West, in fact something far more interesting has been happening.

The former Soviet bloc countries have been steadily catching up with the rest of Europe, and may well be about to overtake it.

Bruegel looked at the GDP per capita of four major capitals, measured on a purchasing power parity basis, which evens out exchange rate fluctuations. It took Vienna as the benchmark as a traditionally wealthy European capital, with close ties to eastern Europe, but not one that was seeing any exceptional growth, like London.

While all of eastern Europe was significantly poorer a decade ago, some of its capital cities have now overtaken it. Poland's Warsaw, the Czech Republic's Prague and Slovakia's Bratislava are all now significantly wealthier than Vienna Warsaw and Bratislava by more than 10% and Prague just slightly ahead. Budapest in Hungary is catching up fast, and may well soon move ahead of Vienna.

Indeed, all the former eastern Europe capitals are moving closer to Viennese standards of living, except for the Slovenian capital Ljubljana (the Slovenians made the mistake of joining the euro, of course, which may well explain why they have done relatively badly).

Major cities are always the first to get rich in any developing economy, but the rest of those countries are not doing badly either. The Poles, Hungarians and the Czechs are now all up to about 60% of the Austrian standard of living, and closing the gap. That is likely to continue.

The fastest growing economies in the EU this year, according to forecasts from the European Commission, will be Latvia, Lithuania and Poland, all of which will expand by 3.2% or more. Only Britain is likely to grow as fast, and our growth is puffed by a housing boom. The Czech economy will grow by 2.4%, and the Hungarian by 2.1%.

Those may not be spectacular rates, but they are a lot faster than most of Western Europe. The long-term trends are all on their side. They still have plenty of room to catch up with western Europe as their economies are modernised and new factories get built to manufacture goods for richer neighbours.

They have low debts. Estonia for example has a debt-to-GDP ratio of only 6.5% and it is still coming down George Osborne must look at numbers like that and weep. OK, it's an extreme example, but the Czech Republic is on 41% and Poland on 55%.

Even better, most of them are outside the euro. The eastern European capitals have not only overtaken Vienna, they have soared past their southern peers too. Madrid, Rome and Lisbon are now not only poorer than the likes of Warsaw, they are getting relatively poorer every year as well.

The single currency looks to have locked most of western Europe into permanent low growth, from which there is no escape. Even at 3% or so expansion a year, the east will easily out-strip zero-growth southern Europe.

Power and influence follow economic success not the other way around. As eastern Europe grows richer than the western half of the continent, that will have three big consequences. First, migration will dry up. Hungarians and Poles moved here in droves after they joined the EU.

As they become as wealthy as we are, the incentive to do so will dry up. That will hurt economies like Britain, which have benefited hugely from immigrants but it will help the countries they left to grow even faster as skilled people return home.

Next, the politics of the EU will be re-shaped. Countries like Italy and Spain are going to decline steadily in influence as their economies stagnate. So will France. Even Germany will not be the power it was once. Instead, it will increasingly be the voice of the Poles and Hungarians that count.

Finally, investment will be directed towards those countries. So far, they have mainly been seen by multinationals as manufacturing bases. From now on they will be seen as consumer markets and CEOs will soon be talking as much about their Polish or Czech strategy as they do now about their Asian one.

It has taken a long time, but the divide across Europe that was drawn after World War II has ended and it is the east that is now in the ascendancy.

Matthew Lynn

Matthew Lynn is a columnist for Bloomberg, and writes weekly commentary syndicated in papers such as the Daily Telegraph, Die Welt, the Sydney Morning Herald, the South China Morning Post and the Miami Herald. He is also an associate editor of Spectator Business, and a regular contributor to The Spectator. Before that, he worked for the business section of the Sunday Times for ten years. 

He has written books on finance and financial topics, including Bust: Greece, The Euro and The Sovereign Debt Crisis and The Long Depression: The Slump of 2008 to 2031. Matthew is also the author of the Death Force series of military thrillers and the founder of Lume Books, an independent publisher.