Political Unrest On The Rise In Economically Troubled Hotspots

Following month long riots in Greece in December, violent protests have erupted in Iceland, Lithuania, Latvia and Bulgaria, marking the latest eruption of anger in economically troubled nations. As the economic crisis bites and unemployment rates soar, political instability is the resulting by-product. In December, the head of the IMF warned that the global crisis may spread social unrest unless governments expand and implement promised stimulus packages. Yet, many of the European countries that have experienced these outbursts of violent protests actually implemented deeply unpopular belt-tightening measures, fanning popular anger in the midst of severe economic downturns.

As Danske Bank notes, the fiscal stimulus option is not possible in most Eastern European countries, as many are struggling with huge funding needs due to large current account deficits and, in some, large budget deficits. Thus, the right policy for many of these countries is actually tighter and not looser fiscal policy - not to stimulate growth, but to reduce external imbalances that today are the main threat to their financial stability. That seems to be the official standing of the IMF, since the bailout packages for Ukraine, Latvia and Hungary were conditional uponradical cuts in public spending.

Yet, this sort of fiscal logic is certainly not popular among the citizenry of these countries. The recent violent protests that erupted in Latvia and Lithuania were against the governments’ austerity measures that included tax hikes, cutbacks on promised wage increases, and curbs on social spending. In both countries, years of high-flying economic growth have come to a halt and both are set to experience sharp contractions in 2009. (See related spotlight issue: Baltic States: Hard Landings In Effect, But Are They Facing Crises?).

In Greece, the December riots may have been triggered by the police killing of a teenager, but they were also fueled by economic hardship and unpopular belt-tightening measures, including newly introduced taxes and plans to reduce spending on the pension system. The government vowed to keep spending under control, but the worsening budget deficit nevertheless contributed to Greece’s recent credit rating downgrade. (See related spotlight issue: Red Flags In Greece: Weak Spot In Eurozone?) In early January, Greek Prime Minister Kostas Karamanlis replaced his unpopular finance minister, who had carried out spending cuts and privatizations, and eight other cabinet ministers in a bid to boost the cabinet’s eroding popularity. The move, however, did not ease the government’s pain. Farmers demanding higher subsidies and pensions and lower fuel taxes have recently stepped up their protests and blocked border crossings with Bulgaria, Turkey and Macedonia.

In economically troubled Iceland, daily anti-government protests recently turned violent, prompting police to use tear gas for the first time in half a century to disperse protesters. According to IMF forecast, the country’s economy is set to contract by around 10% in 2009, yet an expected sharp fall in tax revenues and a large debt-servicing burden leaves no room for fiscal expansion. (See related spotlight issue: Iceland's Economy Headed For Severe, Double-Digit Contraction In 2009)

Governments that don’t have sufficient political and social capital to implement the austerity measures will become casualties of the severe economic downturn. Iceland's ruling coalition is the first to collapse under pressure from violent demonstrations over its handling of the economic crisis. Prime Minister Geir Haarde resigned January 23 and the date for early parliamentary elections is still uncertain. In Latvia, the president gave leaders until March 31 to pass a set of reforms and rebuild public trust, threatening to allow the referendum to dissolve Parliament. The government is discredited by corruption scandals, and analysts suggest there is a little chance for the cabinet to reshuffle and address the criticism by the deadline. In Greece, the government's term ends in September 2011, but the continuous protests that have been shaking the country for weeks are increasing pressure on the government and could trigger early elections.

Meanwhile, Romania and Hungary could be the next flashpoints of deep political destabilization and social strife. In Romania, the government has been struggling with twin deficits and rapidly increasing external debt (albeit from a low level) that could potentially result in hard landing. (See related spotlight issue: Romania Appears To Be Losing Its Mojo: Crisis Ahead?) Moreover, the government is facing the daunting task of scaling back numerous pre-election social spending plans that were aimed at supporting job-creation in response to global economic crisis. The ballooning 2009 budget deficit forecast of 7.5% of GDP makes these pre-election pledges unfeasible. Belt-tightening measures will be widely unpopular now that major Romanian companies are threatening massive job cuts (including car-maker Dacia, where up to 4,000 jobs could go if sales do not recover). Popular pressure on the government, already criticized for not being able to deal with the corruption and crime, will definitely increase.

In Hungary, decreasing real wages, recession and growing unemployment are also affecting the government’s popularity. (See related spotlight issue: Hungary Economic Outlook: In The Doldrums, Headed For Recession) The country is highly indebted (the public debt stood at around 70% of GDP in 2008 and is rising) and the government has no cash to spend. A tighter fiscal policy has already been implemented, but analysts argue that the government might be forced to adopt new austerity measures in order to stay on track with its deficit target of 2.6%, as required by the $25.5b IMF bail-out package. Such measures will include a series of spending cuts on pensions and civil servants' salaries, which certainly won’t receive a warm welcome from the general public.

These governments are between a rock and a hard place in battling the effects of the global economic downturn. They are pursuing fiscal restraint, but at the expense of rising political instability. Widely unpopular belt-tightening policies breed social unrest, and the political parties most likely to benefit are those who run on populist economic platforms. Snap elections could disrupt efforts to stabilize an economy and radical political change could cause investors’ confidence to plummet. Iceland could be a case in point. The latest polls show that the Left-Greens – an anti-big business, pro-environment party that advocates renegotiating the terms of the country’s IMF loan – have benefited from a dramatic rise in anti-capitalist sentiment in Iceland following the crisis. Their win would signal a sharp economic and political turn to the left and the impact on the country’s economic future remains to be seen.

Related Spotlight Issues:

Political Risk On The Rise Amid Global Crisis: Iceland's Government Collapses. Who Is Next?

Baltic Governments Under Strain: Painful Economic Downturns Breed Unrest

Political Unrest In Iceland: Prime Minister Resigns, What Changes Could The Next Government Bring?