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The Czech Economy That Didn’t Bounce?

The Czech republic has been making the news recently. On the one hand the country has been on the receiving end of massive, devastating floods, while on the other the country’s government was brought to the brink of collapse (and beyond)  by the resignation  of Prime Minister Petr Necas following the arrest of one of his most trusted aides on corruption charges. After the deluge I suppose.

Curiously both these events serve to highlight one important underlying reality – Czech voters are deeply dissatisfied and in a highly skeptical mood, since following seven quarters without growth the country’s economy is evidently stuck in the doldrums. The worst part is things look highly unlikely to improve anytime soon.

Naturally the flood damage has resurected an old and somewhat tiresome debate about whether or not destruction is actually good for an economy. The last time this surfaced in any significant way was in the aftermath of the Japanese tsunami (see my piece of the time here), and as we can now see all that reconstruction spending totally failed to get the economy back on track, although it did leave the ailing country with just a bit more debt.

As I think everyone agrees, flood damage is a form of wealth destruction. If you have a house on one day, and the next you don’t then somehow you feel poorer. It isn’t really surprising that you feel poorer because in actual fact  you are poorer. Naturally, if your home gets rebuilt, and you find yourself with an even better one as a result, then  you may even feel you have benefited (although what about all those valued personal belongings you lost), but that will be because someone else, either a government or an insurance company, has made good your loss, so they are poorer instead of you. As Reuter’s reporter Michael Winfrey puts it: “Governments and insurers from Germany to Romania will have to pick up the costs of helping families and business recover from the floods, which have killed at least a dozen people and driven hundreds of thousands from their homes since the start of June“.

Now clearly in the short term GDP may benefit, since spending money will generate economic activity. As the country’s Finance Minister Miroslav Kalosuek told Czech Television at the time:

If we take just the normal households, and how many brooms, bleach and rubber gloves they must suddenly buy, that is demand. There will also be demand in construction, demand in renewing roads, higher demand for certain goods and services. And higher demand is pro-growth.

But will the extra demand really generate extra growth in the longer run, rather than simply advancing spending from the future to now (or as the Spanish expression so evocatively puts it “give us bread for today and hunger for tomorrow”) ?  The evidence we have seems to suggest that it will if the problem the economy was suffering from was a lack of stimulus – which brings us nicely round in a circle to the stimulus versus austerity debate. But if lack of stimulus wasn’t the problem, as we have seen in the Japan case, an extra reconstruction programme won’t make a blind bit of difference at the end of the day. It will simply shift demand around a bit in time.

So which is it? Is the Czech Republic suffering from a normal common or garden recession, one in which a bit more stimulus might help, or is something deeper going on?

The Demographic Spanner Stuck In The Works

The Baltics, Hungary, Romania and Bulgaria are all recognized – each in their own way – to have encountered serious economic problems and generated sizable imbalances during the run in to the global financial crisis. These problems – at the time – were seen as placing serious question marks over the underlying soundness of a group of economies which in the pre-2008 world were often lauded for their growth prowess and fiscal abstemience when compared with their West European neighbors. The fact that these countries started, one after another, to go off the rails could be explained by viewing them as examples of  the “weaker economic cases”in the group.

But when, in a way which curiously parallels what is now happening in purportedly “core Europe” countries like Finland and the Netherlands in the West,  what were previously regarded as best-case-scenarios, like the Czech Republic and Slovenia, start to struggle and then continue to flounder, well perhaps we should be raising more than an eyebrow or two – indeed,  maybe we should really be asking ourselves some serious, thought-provoking questions not only about the structural depth of the problems being faced by the whole group of Eastern Accession countries, but also even about the very soundness and adequacy of the received theories the main multilateral policy institutions are working with.

In the current case, the Czech Republic is now in all probability in its eighth quarter of  recession – and the last time the economy actually grew was in the three months up to June 2011. This is quite a preoccupying outcome for a country which was not perceived to be suffering from any special problems – like outsize credit booms, or government fiscal largesse – in the pre-crisis world. The economy is now moving sideways, and, more importantly, substantial question marks hover over what the country’s real future growth potential actually is. Certainly, and in any event, it is well below that which was considered a norm pre 2008.

In the past the country was characterised by and renowned for the soundness of its industrial base and  its strong export performance, but the continuing crisis in the Euro Area (the principal source of external demand for the country’s products) has meant overseas sales have been largely stagnant for some quarters now. And with countries in Southern Europe striving to make a substantial competitiveness correction and claw back some of their lost ground, it is in the East of Europe where the impact of these efforts is likely to be most acutely felt. It was precisely during the time that the Southern economies were shifting over to credit-driven service ones that their Eastern counterparts were busy building their industrial foothold in the EU. Now those in the East face the risk that a sizeable chunk of this coupling and integration process may simply unwind. A rising tide may lift all boats, but what does a flat sea do?

 

Czech industrial activity has become virtually stagnant when it isn’t actually falling.

And construction is steadily sliding downhill.

In addition to the loss of export leverage household consumption has remained very weak. As the IMF put it in their latest country report, “the export-led recovery observed in 2010-11 subsided as euro area import demand slowed, and growth has noticeably underperformed trade partners and peers since the middle of 2011 mainly because of weaker domestic consumption and investment.”

Naturally, both the IMF and EU Commission assume that what is happening to the country does not go far beyond a short term blip, and both institutions take it as a given that “recovery” will set in somtime soon. As the IMF puts it, “The Czech Republic’s economic fundamentals are strong.” The EU Commission broadly agrees: “Due to a strong downturn in consumer confidence, a drop in public investment and a weaker external environment, real GDP is estimated to have decreased by 1.3% in 2012. As these factors ease off in 2013, economic activity is forecast to bottom out in the middle of the year. The recovery is expected to consolidate in 2014, supported by growth of real household income“.

That being said a nuanced but interesting divergence has emerged between the two Troika partners over the immediate outlook for the country. While EU Commission see “domestic risks to the outlook” as “fairly balanced“, the IMF feels general risks lie  “mainly to the downside” highlighting the risks of  “further deterioration of euro area growth” and the danger of “permanent scars to potential growth“.

The Fund explain their concerns as follows:  “With recent disappointing export performance, the economy is at the risk of being dragged deeper into recession. Also, the current poor growth performance, if protracted, runs the risk of translating itself into a long-term decline in potential growth due to lower investment.” I.E. the slowdown could eventually become self perpetuating if the recession becomes an even more dragged out affair. Unfortunately this possibility is far from being excluded.

Given the existence of such risks it is worth asking ourselves whether growth in the Czech economy really will bounce back to an average of around 2.8% a year between 2015 and 2018? What is there in the works which really could make such a growth spurt – from the current near zero level – possible? Or could the IMF forecast numbers not be just another example of what Christine Lagarde once called “wishful thinking” of the kind that has been habitually practiced in, say, the Greek case.

But let’s put the question another way. What might impede the country from  reverting to a pattern of strong growth rather than simply continuing to bounce along the flatline?  Well, you’ve got it – it’s the demography stupid!  The Czech Republics population and workforce just turned the historic corner pointing towards long term decline. To some this piece of information may seem surprising, but CEE demographics in general really are quite unique, since while fertility fell and life expectancy started to rise as it did in the West, due to the development delay produced by nearly half a century of communist government most of these countries are now in the process of getting old before they get rich, creating a very special set of economic growth and sustainability issues.

Czech fertility has long been below replacement level, and has been below the 1.5tfr level since the early 1990s.

The Czech population has been virtually stationary over the last few years, but is now finally starting to contract.

As in many countries on the European periphery the decline is an indirect by-product of the economic crisis. Population levels which were previously precariously balanced around the zero growth line are suddenly being destabilised by the drop in births associated with the recession and the sudden disappearance of the positive net number of migrants arriving which helped keep the balance in the pre-crisis world.

“In the first three months of 2013…. net international migration was equal to minus 4 people – the number of emigrants was 9 998 people and number of immigrants was 9 994 people. The highest net migration was reached with the citizens of Slovakia (1 213 people) and Germany (334 people), followed by United States (290 people) and Romania (213 people). The considerable decrease was registered in the number of citizens of Ukraine (by 2 201 persons), Czech Republic (by 505 persons) and the number of Vietnamese citizens (by 427 persons)”.

But even more important (in terms of GDP growth potential) than the overall population decline (which is still tiny) is the fall in working age population (WAP).  Following a pattern seen in country after country along the periphery, the start of the decline in this population group has also  coincided in time with the onset of the European debt crisis.

This means that employment growth will have the wind blowing against it, rather than behind it, and that it will become harder and harder to get GDP growth from adding extra labour (indeed at some point the number of those employed may well become negative) and the only major impetus towards headline GDP growth will have to come from productivity improvements. For an examination of this issue from the Portuguese point of view see this post here.



Is There Deflation Risk?



One of the lesser known details about the Czech economy is that – since it has retained its own currency, the Koruna – it has its own independent monetary policy and the central bank therehave now been holding interest rates about as near zero to zero as you can get  (0.05%) for  the past 8 months. This puts the country’s bank in more or less the same situation as most of its better known peers across the globe – namely it is now up against the “zero bound” which makes it difficult to lower nominal interest rates any further.

 

With inflation weakening the debate at the central bank is now moving towards whether it will be necessary to use exceptional measures of the kind which would elsewhere be called QE. One option which is under consideration is a local version of “Abenomics” whereby the bank actively intervenes in the currency markets to provoke Koruna weakening – not so much to generate more export competitivness (banned by the G20) but rather in order to to try and raise the price level and avoid deflation risk (see these comments from central bank board member Lubomir Lizal). Such interventions, which (as in the Japan case) target the price level and not the currency value are for the time being accepted by the international community.

At the present time the Czech Republic is experiencing strong disinflation rather than outright deflation, but the IMF clearly see a danger if domestic demand remains weak and the economy continues to drift that this could become outright deflation.

The policy interest rate has reached the zero bound, but risks to inflation are to the downside. The Czech National Bank (CNB) was swift to cut its policy rate by 70 basis points to 0.05 percent between June and November 2012. Inflation declined below the 2 percent target level starting from January 2013, as the effects of 2012 VAT hike subsided and contributions from food and fuel fell. Inflation is projected to remain at around 1¾ percent through 2014, but risks are to the downside in line with the risks to the growth outlook.

and:

If a persistent and large undershooting of the inflation target is in prospect, the CNB should employ additional tools. The CNB’s statement that additional monetary easing within the context of inflation targeting framework would come from foreign exchange (FX) interventions is welcome and has been clearly communicated. The mission agrees that FX interventions would be an effective and appropriate tool to address deflationary risks.”

The risk of outright deflation is thus intrinsically linked by the Fund to the downside risks to headline GDP growth. If the economy under-performs, and investment does not bounce back then not only will there be damage to the country’s long term growth potential, movements in prices might turn negative.
Japan With A Current Account Deficit And Negative Net External Investment Position?

Few, I suppose, would have thought there would be any good reason to make a comparison between the Czech Republic and Japan. Naturally it is noticeable that both countries have strong industrial bases and are very dependent on exports for growth. But beyond that it would seem the two countries have little in common.

Except, except…..  what about the decline in working age population (WAP)? Isn’t that the factor that many feel is behind the ongoing battle that Japan is fighting with deflation? (See, for example, this post). The Bank of Japan has long recognised that there is some sort of correlation between the rate of workforce growth and the rate of inflation (see chart below), with price inflation turning negative at more or less the same time as labour force growth did. The causality behind the correlation would be connected with the rate of rise (or decline) in domestic demand (initially consumption and then investment). Movements in WAP could be considered to be a good proxy for movements in employment and incomes, and hence consumer demand. As a country’s WAP enters decline then domestic demand tends to weaken and following this the investment which goes with such demand does not occur. This is why failure to adequately resolve the present malaise into which the Czech Republic has fallen could produce a long term negative consequence for trend growth, as the IMF have highlighted.

Thus it isn’t just a coincidence that the Czech Republic is starting to notice a fall in domestic demand and a fall in investment at just the time when the working age population starts to decline. This is a development which needs to be closely watched.

But, beyond any loose similarities, there is one important sense in which the country differs from Japan – the state of its Net External Investment Position.

The Czech Republic has, as I have repeatedly stressed, a strong export sector. So much so that the goods trade balance tends to be positive and large. What’s more, it has been growing rapidly since the crisis. In fact, in Japan as the population has aged this balance has weakened.

But while in Japan the current account balance remains strongly positive, in the CR it is constantly negative.

The reason for this apparent paradox  lieswith the large negative income component in the current account.

This income component is largely made up of interest payments on external loans (for example in the banking sector between West European parent bank and Czech subsidiary) and dividends on equities owned by non residents (for instance non-Czech parent companies which bought into Czech utilities during the privatisation wave).

The income item is large and negative due to the country’s strong negative Net International Investment Position. Simply put non Czech nationals have more investments in the Czech Republic than Czech citizens have abroad to the tune of some 50% of GDP. In an ageing society, with a shrinking workforce this situation is simply not sustainable. Czech companies and citizens need to save more, even though this will weaken domestic demand further and make the country even more dependent on exports, and more of these savings then need to be invested abroad to generate an income flow which will help the country support its rapidly ageing population from 2020 onwards. This situation is widespread across Eastern Europe (see Hungary here and Bulgaria here).

Summing up: In recent years Czech exports have performed remarkably well, and the country has a strong goods trade surplus. The problem is that most of the country’s exports have been geared to the European market, and consumption in this area is now stagnant with a tendency to decline. In addition the country is heavily indebted abroad. With each passing day the CR looks more and more like Germany and Japan, without the strong overseas investment stock which gives the economies of those countries some sort of stability. The country cannot gain enough export momentum and as a result the economy languishes in recession.

The thing about elderly economies is that they no longer stand on two pillars, domestic consumption steadily runs out of steam, and the economy becomes export dependent. This is what can be observed in the Czech Republic, and the country’s demographics make it unlikely we will ever see strong growth in private consumption again.

On the other hand the country has a low sovereign debt level – around 45% of GDP – and before the onset of the latest recession it did maintain a reasonably strict fiscal discipline, despite the fact that with an ageing population the costs of health care and pensions continue rising annually.

One of the reasons for the low sovereign debt level is the fact the country privatized a number of its state owned companies at the start of the century – and herein lies the problem on the income side of the current account. Privatising to overseas (rather than domestic) investors means the even though the sovereign itself is less indebted, the level of indebtedness of the country as a whole doesn’t change much. Ultimately the sovereign supports the nation, and the nation the sovereign, so apart from the political debate about larger or smaller government the rest is more akin to moving the deckchairs around. This kind of privatisation does not guarantee long run sustainability for the country, and if not backed by a rise in domestic saving it can become “bread for today and hunger for tomorrow” as the Spanish expression goes.

So despite being out of the Euro, and having the ability to devalue, it is not clear to what  extent the Czech government will be able to withstand popular pressure to increase spending in the face of a stagnant economy. Without some plan for handling the ageing population problem calls for continuing austerity will likely fall on increasingly deaf ears as they do in country after country along the EU periphery. Despite talk of a constitutional change limiting public debt to 50% of GDP, as we are now seeing in the Polish case such laws are easier to enact than they are to implement. So it is likely that the current wave of austerity policies will increasingly come into question if, as seems probable, the economy continues to stagnate.  In which case watch out for credit rating downgrades, and future surges in yield spreads on the one hand and growing deficit and debt levels on the other. As Paul Krugman once put it, some countries have low growth because they have high debt, and others accumulate high debt because they have low growth. The latter is in dabger of becoming the Czech case.

10 Responses to “The Czech Economy That Didn’t Bounce?”

Philip AmmermanJune 27th, 2013 at 2:16 pm

Good article Hugh. I don't know if you've looked at this, but besides demography, I would look at employment rates and total employment, labour and total factor productivity – this will do a lot to enhance the competitive profile of a country like CR. One of the main impacts of EU vocational training and education policy has been to flatter the employment rate by putting more and more younger age cohorts in some form of schooling. In other countries, such as the NL, a the employment rate actually remained stable while the number of employees fell because everyone was being put on disability benefits. And from my experience in CR doing consulting, there is a significant productivity problem.

EugenRJune 27th, 2013 at 2:52 pm

Dear Edd, the argument if floods or tsunamis are good or bad for economy is result of ignorance of some economists how to measure wealth. These economist never came to understand the balance sheet part of the financial reports, just the P&L or maybe the cash flow. Unfortunately there are to many of them, and they still stick to the mistaken conception that measuring GDP is everything. So they measure everything as compared to the GDP. The current account deficit, the government debt, the accumulated external debt, etc. all are measured as the rate to the GDP. According to this US economy should be probably in worse shape than Greece. And yet, surprise, it is not. But the US has asset value of about 100 trillion US dollar, so the external debt to it is only 7%, while Greece with its "0" value of assets (i am of course exaggerating), couldn't cope with its half trillion Dollar debt.
By the way if floods and tsunamis are good for economies, then also wars are good. These stupid ideas sometime my cause a real war. so we have to oppose them fiercely.

EugenRJune 27th, 2013 at 3:20 pm

As to the problems of Czech economy, it is problem of leadership. And i don't speak only about political leadership but also economic-business leadership. This situation is of course the result of 40 years of communistic regime, that was much more devastating in Czechoslovakia than in Poland or Hungary, where some private sector prevailed even during the communistic times, while in Czechoslovakia not. The communist already in late fifties proudly declared that no private entities exist in Czechoslovakia, and then accordingly changed the name of the country from national democratic to socialistic republic. Of course the following 30 years were devastating, and wiped out most of the economically productive and initiative people. At early nineteens Vaclav Klause, the previous president and prime minister of the time, tried to correct this situation with handing over the economic entities to local entrepreneurs (the second line communistic managers of these entities), with a process called privatization. He failed and i don't blame him. Nobody could know who and what capacity these managers have and the privatization had to happen in very short time, before the political forces opposing such a process will wake up

It seems to me, lately start to appear on the scene new local economic forces, that hopefully will create the local economic leadership.

As to the political leadership, things are happening too. Hopefully the latest events are reflections of clean up that started already 3 years ago after the last election, when new leaders, including the resigning premier Necas were elected on the agenda of Mister clean and not an additional regression. In this early stage it is hard to figure out what really is happening. We have to wait and see to where the wind blow.

EugenRJune 27th, 2013 at 4:07 pm

The problems of Czech economy, it mainly a leadership problem. And i don't speak only about political leadership but also economic-business leadership. This situation is of course the result of 40 years of communistic regime, that was much more devastating in Czechoslovakia than in Poland or Hungary, where some private sector prevailed even during the communistic times, while in Czechoslovakia not. The communist already in late fifties proudly declared that no private entities exist in Czechoslovakia, and then accordingly changed the name of the country from National Democratic to Socialistic Republic. Of course the following 30 years were devastating, and wiped out most of the economically productive and initiative potential entrepreneurs. At early nineteens Vaclav Klause, the previous president and prime minister of the time, tried to correct this situation with handing over the economic entities to local entrepreneurs (the second line communistic managers of these entities), with a process called privatization. He failed and i don't blame him. Nobody could know who and what capacity these managers have and the privatization had to happen in very short time, before the political forces opposing such a process will wake up. By the way the disproportionally higher foreign ownership of Czech economy compared to the Czech foreign possessions is result of this failure.

Edward HughJune 28th, 2013 at 7:55 am

Hi Philip:

"I don't know if you've looked at this, but besides demography, I would look at employment rates and total employment, labour and total factor productivity – this will do a lot to enhance the competitive profile of a country like CR."

Absolutely Philip, this is the whole structural reform approach which I don't have any problem with, it is just that at present we lack quantitative evidence of the extent to which these reforms can offset the negative impact of demographic trends. The outcome in Japan is not encouraging. Maybe countries like Finland and the Netherlands will enable us to calibrate better as both countries must now surely face the need for a serious programme of structural reform.

The CR seems to be caught on the horns of a dilemma since what is lacking is sufficient demand to justify the investment which could create the employment needed to increase participation rates (note participation rates in the US are very low right now too, despite the flexibility in the US labour market). Reducing labour costs in the CR (as in Spain or Greece) is short term negative for domestic demand (making the recession worse) so the only hope is external demands, but here the East will now be in fierce competition with the South. I can't see a win-win solution at the present time.

But above all I think the first thing required is that policymakers recognise that what is happening is actually happening, and then secondly some positive examples to show what can be done to offset demographic drift. The only examples we have to date are negative ones, of what not to do.

EugenRJune 28th, 2013 at 9:48 am

Edd hi once again,

Just a small remark, The Czech economy doesn't suffer from lack of productivity or high wages. Most of its production capacity was newly erected by western companies using the technically very highly skilled cheap work force. Its problem is lack of domestic capital, lack of local entrepreneurship and the collapse of the European consumption markets.

As to the general European problem of demography, it is a long run problem, if it is a problem at all. Who said the economy has to grow to infinity? If you reduce the banks activities and stabilize the credit volume the economy can happily stay in equilibrium without to grow and even with an aging population demanding only health services and no material goods.

EugenRJune 28th, 2013 at 9:30 am

Dear Edd, since as you know i live in Prague, i would like to add some details to your great analysis about the Czech economy.

The problems of Czech economy, it mainly a leadership problem. And i don't speak only about political leadership but also economic-business leadership. This situation is of course the result of 40 years of communistic regime, that was much more devastating in Czechoslovakia than in Poland or Hungary, where some private sector prevailed even during the communistic times, while in Czechoslovakia not. The communist already in late fifties proudly declared that no private entities exist in Czechoslovakia, and then accordingly changed the name of the country from National Democratic to Socialistic Republic. Of course the following 30 years were devastating, and wiped out most of the economically productive and initiative potential entrepreneurs. At early nineteens Vaclav Klause, the previous president and prime minister of the time, tried to correct this situation with handing over the economic entities to local entrepreneurs (the second line communistic managers of these entities), with a process called privatization. He failed and i don't blame him. Nobody could know who and what capacity these managers have and the privatization had to happen in very short time, before the political forces opposing such a process will wake up. By the way the disproportionally higher foreign ownership of Czech economy compared to the Czech foreign possessions is result of this failure.

It seems to me lately new wave of local entrepreneurs and investors who use the opportunity, that the western institutional investors withdrew from the market, and some big foreign investors are rather in the mood to sell than buy. There were also some bankruptcies but rather marginal. I am hopeful that more than 20 years after the collapse of the communistic regime and the split of Czechoslovakia to two countries, finally a new local business elite will start to be dominant in the market. No highly developed European economy can be sustainable without it. With the economic crisis it became obvious, the western investors at the end of the day are not less local patriots than their compatriot governments.

As to the political elite, it is in continuous crisis at least for the last ten years. Governments come and go, just the character of the scandals don't change. The last government of Mr. Necas came to being after the rumors about political corruption reached unsustainable level. Mr. Necas was presented as the Mr. Clean, (maybe the only politician in the previous governments without involvement in the many affairs appearing and disappearing from the political scene). His resignation because of a new affair, that is rather about the He and She relation than the usual economic offense, is very peculiar. Anyway during his 3 years of reign the trend in Czech politics was rather a slow clean up than a new waive of corruption affairs. New conspiracy theories try to explain the last day events that brought to his resignation, with all the usual suspects taking part (CIA, KGB etc.) and all speak about some economic interest around the big new energy projects the Czech government has to decide. But these stories are to long for this forum and are rather from the realm of the fantasy than from reality. Only the future will show us where the Czech political scenery is heading to, but as to the economic developments, i am rather optimistic, the economic boat showed in the past that it can float with or without the politicians quite well.

Edward HughJune 28th, 2013 at 3:35 pm

Hi Eugen,

"The Czech economy doesn't suffer from lack of productivity or high wages." and "Who said the economy has to grow to infinity?"

You raise interesting points, indeed the Czech economy is likely to become a test bed for this whole situation. I have become convinced that as working age populations fall we will see very little, if any, economic growth. The downward trend is already obvious in the oldest countries (Japan, Germany, Italy etc), and it would not surprise me to see GDP growth turning slightly negative in a decade or so across much of the developed world.

There is a growing recognition of this reality in the move towards focusing on GDP per capita – as populations shrink, GDP can shrink but GDP per capita still rise, it depends on the relative rates.

Assuming countries don't run fiscal deficits the only problem I see here is in legacy debt, in the Japan case all that sovereign debt (250% of GDP or so) and in the Czech case the external debt (50% of GDP). We need to find solutions to this specific problem, especially in the light of possible deflationary trends (as I try to highlight in the article the CR central bank is already up against the zero bound) which will only make debt grow in proportion to income.

Naturally the CR is about to become a fascinating test case.

TomJune 30th, 2013 at 4:48 pm

As a twice former Prague resident (a stint in the 90s and another a few years back) I'm going to chime in with Eugen. I think the Czech economy still has a lot of catch-up left in it and will tend to gradually converge over the very long run with Germany, with which the Czechs have very much in common in terms of economic culture, notwithstanding the past 70 years, the highlights of which are described quite well by Eugen.

The Czechs do face some particular challenges in the near and longer terms. One is that more than most emerging markets they are geared towards exporting to developed markets. As other emerging markets transition towards getting most of their growth from trading with each other, the Czechs will likely fall behind them somewhat in terms of growth rates. That said the Czechs have done quite well over the past 20 years, having roughly caught up with Hungary. So we shouldn't write off their ability to adjust and adapt.

Another, which I am a bit too distant from now to judge well, is the apparent resurgence of the old guard in politics represented by Zeman's rise and Necas's ouster. This looks to me like potentially a serious problem in terms of economic policy and corruption for the next several years at least. In other words I think the people who dug up Necas's corruption and used it to get rid of him are actually more corrupt than he was. The "KGB" angle seems fanciful, but there certainly are shadowy Russians with ties to the Russian state involved in various ways and friendly with various Czech politicians. The domestic energy sector angle sounds very plausible.

Another challenge touched in is that Czechs face a similar problem of aging to developed countries but with a lower GDP/capita. It's not really clear whether this will be an advantage or disadvantage, but it surely makes the challenge different. On the other hand I'm not scared by population shrinkage's effect on GDP growth or by deflation. Productivity and GDP/capita are what matter.

I definitely don't see Czechs facing a similar population flight problem to Portugal. Czechs aren't fleeing and immigration dropped during the crisis mainly because immigration rules were tightened in an effort to help out unskilled unemployment. The country remains a natural magnet for young, talented Ukrainians, Russians and Kazakhs.