Identifier
Created
Classification
Origin
07SOFIA1166
2007-09-25 14:29:00
UNCLASSIFIED//FOR OFFICIAL USE ONLY
Embassy Sofia
Cable title:  

INFLATION, CURRENT ACCOUNT CAUSE CONCERN

Tags:  EFIN ECON PGOV EINV KCOR BU 
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RUEHLN RUEHLZ RUEHPOD RUEHROV RUEHSR RUEHVK RUEHYG
DE RUEHSF #1166 2681429
ZNR UUUUU ZZH
R 251429Z SEP 07
FM AMEMBASSY SOFIA
TO RUEHC/SECSTATE WASHDC 4344
INFO RUEHZL/EUROPEAN POLITICAL COLLECTIVE
RUCPDOC/USDOC WASHINGTON DC
RUEATRS/DEPT OF TREASURY WASHINGTON DC
UNCLAS SOFIA 001166 

SIPDIS

SENSITIVE
SIPDIS

RETEL: SOFIA 943

E.O. 12958: N/A
TAGS: EFIN ECON PGOV EINV KCOR BU
SUBJECT: INFLATION, CURRENT ACCOUNT CAUSE CONCERN


UNCLAS SOFIA 001166

SIPDIS

SENSITIVE
SIPDIS

RETEL: SOFIA 943

E.O. 12958: N/A
TAGS: EFIN ECON PGOV EINV KCOR BU
SUBJECT: INFLATION, CURRENT ACCOUNT CAUSE CONCERN



1. (SBU) SUMMARY: IMF officials announced revised statistics on
Bulgaria September 21, estimating annual inflation of eight percent
and a current account deficit of 20 percent of GDP in 2007. Finance
and banking sector officials remain confident in the Bulgarian
economy's fundamentals including strong growth (at over 6 percent of
GDP in 2007),conservative fiscal policy (budget surpluses of at
least two percent for the past four years) and a well-capitalized
banking sector. Still, the persistently-high current account
deficit, rising inflation, expanding credit growth, and an
over-heating real estate sector that is dependent on UK-originated
investments, has Bulgarian finance officials on the lookout for
potential exogenous shocks. End Summary.

2. (U) IMF officials raised their estimates of annual inflation
(to 8 percent) and the current account deficit (to 20 percent of
GDP) for Bulgaria on September 21. The increased inflation stems
from rising prices for foodstuffs (partly due to this summer's
regional drought, reftel) and excise tax increases arising from EU
membership. Inflation is expected to decrease in 2008 to four
percent, still well above the Maastricht criterion for Euro-zone
membership.

3. (U) Optimism related to Bulgaria's EU integration has spurred
domestic consumption and investment activity and fueled strong
growth (estimated at over six percent of GDP in 2007) and a large
current account deficit, which the IMF now predicts will reach 20
percent of GDP in 2007. While most observers view the current
account deficit as a normal -- and temporary -- characteristic of a
growing transitional economy, IMF Representative in Bulgaria Juan
Jose Fernandez-Ansola warned September 21 that the GOB must do
everything it can to assure foreign investors that it intends to
maintain strict financial discipline (one of the few levers the GOB
has on the economy given the country's currency board arrangement).
The current account deficit was more than fully covered by FDI in

2006.
CENTRAL BANK RAISES RESERVE REQUIREMENTS

4. (U) Rapid credit growth is also causing concern. After
initially removing administrative barriers to credit growth at the
beginning of the year, the Central Bank raised reserve requirements
on deposits from 8 to 12 percent on September 1. The Bulgarian
National Bank took this step after the growth rate of bank credit
reached 47.7 percent in June 2007 compared to 24.6 percent at the
end of 2006. The aim of the hike is to withdraw liquidity from the
banking system and reduce credit demand, thereby relieving the
country's balance of payments of the pressure of strong domestic
demand.
IF UK BANKS COUGH, WILL BULGARIA CATCH COLD?

5. (SBU) Even with the growth in consumer credit, according to
Director of Deutsche Bank Bulgaria Borislav Ivanov, the mortgage
sector in Bulgaria is still underdeveloped. Mortgage indebtedness
amounts to just 5 percent of GDP, well under the European average.
He noted that Bulgaria has not been touched by the sub-prime
mortgage threat, as underperforming loans here represent only two to
three percent of all loans. Overall, the banking sector is strong
and well-capitalized.

6. (SBU) Still, Ivanov warns that the biggest risk to the
Bulgarian economy in the near-term is the over-heating real estate
market. He noted that over the last two years, Bulgaria's
impressive growth rates have been driven by real estate, with 35
percent of FDI coming in this sector. The real estate boom is
fueled by foreign investors (individuals, banks and hedge funds) in
large part from the United Kingdom. According to James Hyslop,
Director the EBRD's Sofia office, more than 35,000 UK citizens have
bought second or retirement homes in Bulgaria, fueling construction
booms in sea and ski resorts.

7. (SBU) With the UK now feeling the effects of the sub-prime
mortgage crisis, there is increasing concern among Bulgarian bankers
that UK investments in Bulgaria may experience a slow-down, which
could cause a correction in housing prices, especially in resort
areas, of between 20 and 40 percent. This would take liquidity out
of the market and affect consumption and growth. Bulgarian
financial institutions are watching events in the UK closely given
Bulgaria's dependence on UK investments in the real estate market.

8. (SBU) Comment: While the fundamentals of the Bulgarian economy
are strong, the current account deficit, rising inflation and
overheating housing sector represent potential vulnerabilities. Key
for the GOB will be to maintain fiscal discipline, especially in the
run-up to October 28 local elections, and to continue to attract FDI
in productive sectors (as opposed to real estate) that will
eventually lead to increased exports.
BEYRLE