The CEE region is once again at the centre of geopolitical events, this time on the positive side. Any boost in the German outlook would mean a significant boost for the CEE region – and that’s the clear direction. On the economic side, typically the Czech Republic and Hungary show the highest beta to German GDP momentum. The main reason for this is the openness of these economies and the interconnectedness through the automotive sector, where roughly a third is directly interconnected through German industry. The Czech Republic also shows the highest share of exports to Germany (33%), followed by Poland (28%), Hungary (25%) and Romania (20%).
At the same time, both the Czech and Hungarian economies are in the recovery phase of the cycles. A boost from Germany could further accelerate the current momentum in these countries, but also in the region as a whole. Infrastructure investment should mainly support the Czech Republic given the geographic interdependence of the two countries, and defence spending should find a match in the Czech Republic and Poland, which have the largest share of military production within the CEE region.
In terms of market implications, if we take Ukraine and US tariffs off the table for a moment, the German fiscal impulse is clearly positive for the CEE region. In the short term, the way in which central banks handle this issue will be key. They currently stand on the hawkish side, and German stimulus may support this narrative and reduce the scope for rate cuts. All countries except the Czech Republic are currently at a pause in their respective cutting cycles. For the Czech National Bank, this may mean less room for rate cuts, and the risk to our forecast is one cut instead of two by the end of the cycle in May. Other central banks may therefore extend the wait for rate cuts or end the cutting cycle altogether.
In the FX space, key to watch will be the dynamics in the rate differential in the short term. In the long term, a GDP boost should support FX. In the near term, however, we see a more complicated picture. The spike in EUR rates over the last two days shows CEE rates outperforming, leading to a narrower differential, which has been a less important driver in recent weeks. In periods where the market largely follows sentiment, it is only a matter of time before rates come into play again, implying weaker CEE FX for the time being. It will also take a while for central banks to get their views together and send out hawkish signals.
Over the coming days, we will be more range trading depending on political headlines. Looking further ahead, the GDP boost and hawkish stance from central banks create a clear risk of stronger currencies than our forecast.
