FDI inflows to Central, East and Southeast Europe (CESEE) as a whole declined in 2014 with significantly diverging trends in the three sub-regions: increase in the New EU Member States, stagnation in Southeast Europe and decline in the major post-Soviet countries.
Austria could, on the whole, maintain its CESEE market share. In 2015, the CESEE region is exposed to two main factors that drive FDI into opposing directions. One is the stabilization of economic growth in the NMS which is expected to spur FDI. The other is the Ukraine– Russia conflict which depresses economic growth and increases investment risk in the affected countries leading to capital flight.
In 2014 global FDI experienced a modest decline while both inflows and outflows continued to shift to emerging economies. A turning point may have been reached in Europe; economic growth was resumed and cross-border investments invigorated in the second half of last year.
FDI took off in the New EU Member States (NMS) – thus the deleveraging which suppressed FDI inflows has come to an end. There has been diminishing greenfield investment activity, however. Consequently, FDI has flown mainly into existing subsidiaries, strengthening established capacities.
FDI inflows are still meagre in relation to gross fixed capital formation, about half of the before-crisis level. Economic recovery is based on other growth drivers including private consumption and EU transfers. However, an acceleration of economic growth may not be sustainable without a recovery of private investments, both foreign and domestic.
Government policies for attracting FDI have focused on the re-orientation of FDI to higher value-added activities in manufacturing and services. The Central European manufacturing hub (including large parts of the Czech Republic, Hungary, Poland, Romania and Slovakia) has expanded and new ventures targeted ICT services. Simultaneously, the support of domestic SMEs and national champions has received more attention and public funding compared to earlier years. However, fiscal support to new investment projects in more developed regions has been curtailed by the new EU-wide state aid ceilings.
The CIS countries as well as Latvia and Lithuania received much less foreign investment in the wake of the Ukraine crisis. Russia is the only country among the CESEE which has negative FDI net, meaning that outflows outpace inflows by a wide margin: inflows declined to less than one third, whereas outflows only to two thirds in 2014; consequently the capital flight in the form of FDI amounted to EUR 26.7 billion.
In Ukraine FDI has dried up and may not recover before political and economic stabilization is reached. But structural reforms including competition policy and regional decentralization may increase FDI in the future. Following the devaluation of the local currency the country is now a cheap alternative for component manufacturing and IT service sourcing.
Austria is the third most important investor in the NMS and SEE behind the Netherlands (which is a location of international headquarters) and Germany. FDI outflows from Austria were in line with the global decline in the past eight years. Meanwhile a redirection from CESEE to Asian and American destinations took place; the share of CESEE fell from about two thirds to one third of the outflows.
China – one of the largest global investors with outflows doubling since 2008 to some EUR 100 million – has recently started to also build positions in CESEE beyond Kazakhstan and Russia. In 2014 the region hosted 11% of Chinese outward greenfield capital flows after only 6% in 2008. However, the combined share of China and Hong Kong in the FDI stock is still marginal in the NMS and SEE (about 0.1%); it is close to 1% in Russia and Belarus and more than 3% in Kazakhstan.
The stabilization of economic growth in the EU and most prominently in the NMS is expected to attract growing amounts of foreign investment in the latter region in 2015. Even if first quarter data do not support this expectation yet we believe FDI activity to gather momentum. A recovery of private investment activity in the more developed EU members would mean that more cross-border investments will target the NMS. FDI in Russia is bound to plummet again except from China which has announced several large manufacturing projects.