The latest economic forecast from Eesti Pank finds that the economy has started to grow again, but that it will do so slowly. The economy will shrink a little overall on average for the year, but will grow by around 2% next year and 3% in 2026. Inflation will remain at 3.5–4% this year and in the next two years, as tax rises will raise inflation in the short term. It is hard to escape from a lasting large budget deficit but it is important to do so because orderly state finances will lay better foundations for growth in the economy.

The Estonian economy has steered towards recovery. Several branches of the economy that have been in difficulties have shown signs of improvement, including some segments of manufacturing where output volumes are no longer declining and have already started to increase. Export volumes from Estonia grew a little in the first half of the year. Estonia’s main markets for exports are expected to start performing better and this will lay the groundwork for future growth in exports of goods and services. Further support for this comes from reduced cost pressures and the opinion of Estonian companies that they have become more competitive. The European Central Bank has cut its key interest rates, and those cuts will offer some respite for the economy, and will pass through to borrowers in Estonia more quickly than in most other countries of the euro area. Output volumes are also expected to increase in those branches of manufacturing that have not yet seen improvement.

Economic activity will increase slowly. Growth in foreign markets will provide additional impetus to growth in the economy as opportunities for exports improve, but the growth in purchasing power in Estonia’s main export markets will not be very fast. Equally, the growth in the real purchasing power of people Estonia will be quite sluggish, as the government coalition has agreed additional taxation of income and rises in indirect taxes that will raise the price level. About half of the growth in the economy comes from spending on private consumption, and that might in future start to leak out of Estonia to a greater extent. This is because of the high price level of consumer goods, which is leading more and more consumers to prefer international online stores to domestic shops. The planned cuts to state spending will also slow the growth in the economy in the years ahead. The economy is expected to grow by around 2% next year, and then growth will pick up to 3% in 2026.

Tax rises mean that inflation will remain around its current level until 2026. The consumer basket will rise in price by 3.5% this year, and inflation is expected to be at a similar level in the next two years. The ability of companies to raise their prices is limited, but they may try to do so in order to recover some of the profitability they have lost in the meantime. The price level in Estonia has reached the average of the European Union while incomes are at three quarters of the European Union average. Purchasing power will improve quite slowly, and so demand-side factors do not particularly favour a rise in prices.

The long-term outlook for the Estonian economy depends on bringing the state finances into order. Reducing the deficit first of all to the 3% limit permitted by the rules and then moving towards balance will help avoid unrestrained growth in debt. Reducing the budget deficit will mean that the state contributes less to growth in the economy, so the smaller budget deficit will weigh on growth in the short term, and people’s purchasing power will not improve as fast. Despite this, it is vital to get the state finances in order, and the long-term growth that will follow from this justifies the cost of it, which will be expressed through slower growth in the economy over the short term. Orderly state finances will support growth in the wealth of Estonian society over the long term, as it will make the Estonian economy more resilient to crises, make the state more credible as a borrower in the eyes of lenders and investors, and allow more capacity in the state budget for necessary spending instead of for interest payments.

For further information:
Viljar Rääsk
Head of Communications
Eesti Pank
6680 745, 5275 055
Email: [email protected]
Press enquiries: [email protected]