Batten Down the Hatches!

Poland: An EU success story hits troubled times

Poland, the only member of the European Union that managed to maintain uninterrupted economic growth during the ongoing European crisis, has recently entered a phase of political fragility. As the Polish economy has begun to feel the impact of the EU crisis, the popularity of Polish Prime Minister Donald Tusk and his party, Civic Platform, has declined. These changes mean Poland is becoming more like its Central European neighbors.

Analysis

Poland has been one of Europe's most glittering success stories, both before and during the European crisis. Between 2003 and 2007, the Polish economy grew an average of 5.2 percent annually. Even as the crisis hit Western Europe, Poland managed to grow by 4.5 percent in 2011 and 1.9 percent in 2012. However, the country's economy has recently decelerated. Poland's gross domestic product grew by a meager 0.4 percent in the first quarter of 2013, and the country is expected to grow around 1 percent this year, well below its previous performance.

A combination of factors explains this shift. Warsaw's recent spending cuts and tax hikes have weakened local consumer confidence and companies are finding it increasingly difficult to secure financing. Additionally, the Polish government has already spent most of the EU funds allocated for 2007-2013; fresh money will not arrive until 2014. Between 2008 and 2012, Poland also benefited from extra investment related to the Euro 2012 soccer championship – according to Capital Economics, Poland received some 25 billion euros (roughly $32.7 billion) of investment related to the championship, which also created several thousand extra jobs.

These factors are taking their toll on employment. According to Poland's Central Statistical Office, unemployment was 13.2 percent in June, up from 12.4 percent in the same month during 2012. According to Eurostat, youth unemployment currently affects one-third of the active population aged between 15 and 24. While Poland's unemployment is lower than that of most Southern European countries, it is beginning to have political consequences.

Mr Tusk came to power as the head of the centrist Civic Platform party in 2007. He was re-elected in 2011, making him one of the few prime ministers of EU member states to survive the European crisis and remain in office. Now, the slowing Polish economy is eroding support for him and his party.

Mr Tusk is facing challenges from within and from without. According to a July 9 opinion poll, 55 percent of Poles want the prime minister to resign. Moreover, the conservative Law and Justice party has recently become Poland's most popular party, with opinion polls showing between 30 and 35 percent of support for it (some 10 points above Civic Platform). Law and Justice, led by former Prime Minister Jarosław Kaczyński, has been increasing its nationalist rhetoric, defending a larger presence of the Polish state and Polish investors in key sectors of the economy, such as industry and banks, and proposing to raise the minimum wage and cut taxes.

The party also has a negative view of the euro zone, arguing that Poland should not abandon the złoty in the short term and that a referendum should be held before joining Europe's currency union. In February, Law and Justice voted against the fiscal compact treaty, an EU agreement that expands EU oversight of national budgets. According to Mr Kaczyński, the pact undermines Poland's sovereignty.

Mr Kaczyński led a fragile coalition government that lasted for a year and a half between 2006 and 2007. Since then, Mr Tusk has warned of the political instability that he says would follow a new Kaczyński government, so as to maintain support from Poland's middle and upper classes, who fear the rise of the nationalists. But the economic crisis has weakened these classes' trust in Mr Tusk, and Law and Justice is becoming particularly popular among young voters, who have been hit especially hard by the slowing Polish economy.

Adding to Mr Tusk's woes, his own party is also challenging him. In May, Jarosław Gowin (who was dismissed as justice minister earlier in the year) openly questioned Mr Tusk's leadership of Civic Platform and criticized the government for rising taxes and increasing bureaucracy. The party was originally scheduled to hold its leadership elections in spring of 2014, but Mr Tusk decided to move the date forward to avoid a deepening of the Civic Platform's internal crisis. As a result, party members will vote for a new leader this summer, with results announced in late August.

Though Mr Tusk is likely to be re-elected as party leader, that will not mend the divisions within Civic Platform. In June, Mr Gowin created a parliamentary group called "Good Changes" to promote his agenda. While this does not necessarily mean a split in Civic Platform is imminent, internal tensions are likely to grow in the coming months. If Mr Gowin and his supporters abandon the party, the ruling coalition (made up of the Civic Platform and its junior partner, the Polish People's Party) could lose its majority in parliament, becoming a minority government and risking early elections. Mr Tusk will face his next challenge in May 2014, when the Poles will vote in European parliamentary elections. This will be a key test for the popularity of his party, and will set the political tone for the next general elections, scheduled for 2015.

Since joining the European Union in 2004, Poland has enjoyed a great degree of political stability, allowing it to attract investments and maintain high levels of economic growth. This was also the case for most countries in Central and Eastern Europe, which managed to remain relatively isolated from the crisis in the euro zone However, a combination of economic deceleration and internal political issues is creating instability in the region.

The Czech Republic has been in a delicate political situation since early June, when its government collapsed after a corruption scandal involving a close aide of former Prime Minister Petr Necas. The Czech president recently appointed a new prime minister, but political instability persists and the new cabinet will probably be short-lived. Bulgaria has also been mired in a political crisis since the government of former Prime Minister Boyko Borisov fell in February and was replaced by a fragile government led by current Prime Minister Plamen Oresharski.

The Hungarian government is considerably more solid than its Czech and Bulgarian counterparts, but Hungary's gross domestic product contracted by 1.7 percent in 2012, and according to the European Commission, will only expand by 0.2 percent this year. To increase state revenue, Budapest has applied several economic measures (such as one-off taxes) and institutional reforms that are upsetting foreign investors and the EU Commission.

Economic slowdowns are also leading countries in the region to re-examine their relationships with the European Union. Mr Tusk said July 6 that Poland probably would not join the euro zone until at least 2019. Czech National Bank governor Miroslav Singer said in May that his country is unlikely to adopt the euro before 2019, while Hungarian Prime Minister Viktor Orban said in March that Budapest would not join the common currency before 2020.

For all these countries, keeping their own currency offers some room for maneuvering in the context of the European crisis. But it also poses the risk of isolation from EU decision-making. Central and Eastern European countries still depend on EU funds to help their economies, and a seat at the negotiation table is key to protecting their interests. They also benefit from access to the free trade zone in Europe. But as membership in the European Union – and particularly the euro zone – becomes less attractive, countries in the region are reassessing their priorities, particularly in light of the growth of nationalist parties that demand greater independence in foreign policy issues. This dilemma will continue to mark the region in the coming years.

This is a repost of an article that appeared on the Stratfor and the Warsaw Business Journal on July 15, 2013 and July 17, 2013 respectively