Estonian Economic Overview

October 2012

 

The key question facing economists for at least the next one or two years is how the economy is to withstand Eurozone turbulence. At the beginning of October the Parliament ratified an act related to the 700 billion Euros lending capacity of European Stability Mechanism (ESM) and European Financial Stability Facility (EFSF). Parliament also approved the early settlement of the second payment into the ESM fund, which according to Minister of Finance, was needed to convince the markets of Estonia’s reliability as a partner on the international stage. The total contribution of Estonia to ESM will amount to 148 million Euros payable over a five year period.

No one can tell if this seemingly huge 700 billion Euros will stabilise the market. The size of Euro-Zones economy is close to 10 000 billion Euros and governments’ gross debts amount to over 8 000 billion Euros. The run-up to the Greek elections this spring and the EU Summit demonstrated how quickly nearly unthinkable scenarios in the Eurozone crisis can come about. Political developments, economic news, and approaching debt redemption deadlines can trigger fears of sovereign debt defaults or Eurozone exits that could materialize over the course of a weekend.

Given the current pace of change and the level of volatility, many companies are focussing on preparing to navigate continuing uncertainty and changes in the global environment. PwC’s 15th Annual Global CEO Survey found that more than half of corporate leaders say their business had already been affected financially by the Eurozone debt situation and about 45% of CEOs say the crisis has triggered changes to strategy, risk management, or operational planning. According to Sarah O’Connor (Financial Times, May 18, 2012), close to 25% of the 1,500 global executives surveyed in May already had a contingency plan for a Eurozone break-up.

Holding the Eurozone together – Europe’s leadership will still likely drive a European economic slowdown through 2013. But the limited success to date of action aimed at holding the Eurozone together has made at least a partial break-up a realistic possibility. PwC’s economists believe that such a break-up could cause major disruptions as well as a deep recession across the Eurozone that could persist for years.

How can the less than 20 billion Euro Estonian economy influence and help? Apparently, only with good will and good examples. Although the government budget will be in deficit again in 2012 with an expected 1.1 to 1.2 percent on GDP, it can be still taken as a showcase given the situation elsewhere in Europe. The expected deficit in 2013, based on the recently adopted budget, is 0.7 percent with a surplus expected in 2014. The budgeted growth in revenues is only 2.2 percent in 2013, which is low given the close to 4 percent real GDP growth and 3 percent inflation predictions. The growth of state revenues will be dampened by a decrease in the general tax burden by 0.6 percent to 32.6 percent. There are two main sources of this reduction. One of them is rather dubious as it relates to the re-establishing of the state payments to the second pension column which were stopped in the time of the crisis. The second, relates to the reduction of payments to the unemployment fund. This is good news for both, employers and employees, reduces labour costs and has a positive impact on the investment climate.

 

The ambitions of the government will be challenged by the salary requirements of the sectors which are mainly financed from the state budget. How the strikes by health care employees will be resolved was not clear at the time of writing but this will certainly not be the last strike and increasing pressure requires high level political skills from the government.