BULGARIA: THE ECONOMY'S MUDDLING THROUGH, BUT THE

1. (C) Summary: Bulgaria is finally feeling the effects of
the global financial crisis. After years of impressive
growth, major indicators are down and the real economy is
taking a hit. But years of fiscal conservatism have left
Bulgaria with sufficient buffers to avoid the financial
turbulence seen in many of its neighbors, at least for now.
Despite the country's relatively strong position, Prime
Minister Sergey Stanishev is struggling to benefit from his
government's prudent management of the economy. Facing an
uphill re-election campaign, Stanishev is increasingly
hammering his main rival, Sofia Mayor Boyko Borrisov, on
economic issues. If this effort fails to impress a Bulgarian
public that has become used to gangbuster economic growth, we
may see Stanishev resort to other tactics, including bashing
the EU for perceived double standards and lackluster support
of Bulgaria during hard financial times. End Summary.



2. (C) The global contagion has finally hit Bulgaria.
After five years of impressive GDP growth (averaging seven
percent annually), foreign direct investment and remittances
are down, tourism revenues are sagging, key industries are in
major contraction, the real estate and construction sectors
are easing up, exports are shrinking and unemployment is
creeping higher. Still, Bulgaria is muddling through. In
contrast to many East European neighbors, Bulgaria entered
the crisis in relatively strong shape. A policy of fiscal
conservatism translated into consecutive years of budget
surpluses and left the country with healthy buffers. The
currency board, the bedrock of Bulgarian financial stability
since a catastrophic banking crisis in 1997, remains strong.




3. (C) While growth is taking a hit, experts still expect
GDP in the positive range, perhaps 1-2 percent for 2009.
Privately, some in the government are bracing for negative
growth by year's end, but know that much will depend on the
economies of other key countries, first and foremost Germany.
An EBRD team that just visited Bulgaria had a cautiously
positive outlook. On March 17, the IMF deemed Bulgaria's
banks "still well-capitalized, liquid and highly profitable."
Though the IMF warned of problems, including a possible
recession, wage-driven inflation and falling competitiveness,
it was basically a soberly positive assessment. Although the
mostly-foreign owned banking sector has tightened lending
significantly, these banks are comparatively less concerned
about Bulgaria than about investments and loans in other East
European countries. At a recent AmCham meeting, most firms
were guardedly positive.



4. (C) Try as the government might, PM Sergey Stanishev and
his Socialist-led coalition can't seem to benefit from this
relative stability. As they prepare for summer elections,
the Socialists are facing the hard reality that the Bulgarian
electorate has become accustomed to some of the highest rates
of growth in Europe and anything less just won't do.
Moreover, there is the phenomenon of "the two Bulgarias" --
one centered on booming Sofia and a few other cities and
certain sectors (especially IT) and the other rural, poor,
and fast losing population. Some analysts predict that
economic contraction will hit Bulgaria first in the real
economy and then spread to the financial sector, a reversal
of what has transpired elsewhere. Bulgaria's over-sized grey
economy (estimated to be as high as 30 percent) is a
cushioning factor of sorts, but cannot absorb shocks.



5. (C) While the macroeconomic indicators are not dire (at
least not yet), the political indicators are sliding to
danger zones. Stanishev is struggling to plead his case at
home and abroad: his government's fiscally-conservative
policies, while often criticized by the leftist wing of his
own party, have allowed Bulgaria to avoid the financial
dislocations that have plagued many of Bulgaria's neighbors.
With an eye on the economy -- and the elections -- Stanishev
loosened the purse strings in the 2009 budget somewhat,
including both an increase in pensions and a stimulus plan
(referred to here as Stanishev's "Obama Plan"), but still
targeting a two percent surplus. The public was not
impressed.



6. (C) On the international stage, Stanishev and his
government have fiercely argued for greater differentiation
among the situations of East European countries. He has

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pushed for speedy acceptance to ERM-II, to put Bulgaria on a
clear path to Eurozone membership. The government has
pursued greater cooperation with the IFI's, with the EBRD's
March 17 announcement of a 250 million euro investment in
Bulgaria's energy sector the latest example. At the same
time, Stanishev has ruled out any discussion about the need
for an IMF precautionary agreement, saying such a deal is not
only unnecessary, but potentially harmful, as it would
undermine the investor confidence that Bulgaria has worked so
hard to build.



7. (C) Despite the Stanishev government's obvious economic
credentials, the Socialists continue to lose ground in the
polls to their main rival, GERB, the party of Sofia Mayor
Boyko Borrisov. As elections approach, we can expect the
government to continue to call attention to GERB's flimsy
economic platform and thin economic bench. If these
arguments fall on deaf ears and the Socialists continue to
struggle, Stanishev and his government may resort to another
well-worn strategy: blame the foreigners. The EU will come
in for particular criticism. While Stanishev himself is a
committed Europeanist, he has been stung by successive
negative EU monitoring reports on Bulgaria's rule of law
performance. His bitterness was visible after the EU's
November announcement of the permanent loss of over 220
million euros in pre-accession funding. His government has
been increasingly vocal over what it insists is an
anti-Bulgaria double standard in the EU and in European
media: on rule of law issues, Eurozone membership, financial
support for energy infrastructure projects after the January
gas cut off, and the EU-mandated closure of two Bulgarian
nuclear reactors.

Comment


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8. (C) Running on his economic credentials will likely not
pay off for Stanishev. The Bulgarian electorate has pocketed
the gains made leading up to Bulgaria's 2007 EU accession and
now voters are clamoring for more. The Socialist-led
government basically starved major social investments (the
health care, educational, and transportation infrastructure
here is dismal) and kept a pretty tight lid (until recently)
on public sector wages. With foreign direct investment down,
speculative real estate growth fast contracting, and loose
lending drying up, the easy days of growth and personal
wealth gains are over. An economy that is seen as just
"muddling through" after years of
gangbuster growth is unlikely to impress the average voter,
even as Bulgaria's neighbors are falling victim to financial
turbulence.



9. (C) The government is testing a risky tactic. If
Bulgaria experiences a true economic crisis in the next
several months, including bank failures, the electorate may
decide to go with a tried, tested and known leader -- the
intellectual Stanishev -- over the brash, unpredictable,
"tough guy" Borrisov. It's a long-shot, but part of the
ruling Socialists' gameplan. Bulgaria is now on the outer
edge of world financial turbulence, but this small economy
(Walmart's annual revenues are more than eight times
Bulgarian GDP) could easily get sucked into the vortex. The
Socialists could come out ahead in this case, but
unfortunately for Stanishev, such a gain would have to be
precipitated by a loss of economic stability. It is much
more probable that such economic problems will fuel massive
public anger at -- and rejection of -- the governing parties.
Whatever the state of the economy, the election campaign
will be nasty, and investors will likely wait to gain clarity
and predictability under a new government before venturing on
many new projects.
McEldowney