Economic policy statement of Eesti Pank



Economic growth improves loan servicing ability

Economic growth has resumed rapidly in both the euro area and Estonia. Estonia's recovery has been mostly driven by exports, which, measured in current prices, reached close to the all-time high in September.

The labour market situation has slightly improved, with the unemployment rate declining to 15.5% in the third quarter. The most of new jobs have appeared in the sectors which underwent the most extensive lay-offs during the downturn: manufacturing, construction and trade. Future labour-market developments in Estonia will be increasingly affected by demand for qualified labour force. Unemployment will remain high in the years to come. In order to improve the situation further, it is necessary to apply active labour market measures efficiently.

In autumn, inflation picked up faster than was expected in Eesti Pank's baseline scenario. This was caused by global increase in the price of raw materials for food, which affected consumer prices more than anticipated. At the same time, year-on-year margins in food trade grew as well. For instance, wholesale food trade earned record-high profits in the third quarter of 2010. According to Eesti Pank's December forecast, prices will increase by an average of 2.7% in 2010 and 3.5% in 2011. The price hike of food will nevertheless have a temporary effect on inflation. Price hikes will remain subdued in other sectors, so the inflation level will decline in 2012.

As regards external risks to financial stability, tensions in international financial markets have increased. Threats to the Estonian financial sector are somewhat cushioned by the fact that our larger banks belong to strong Nordic banking groups, which have been somewhat less affected by recent developments. However, the risk of further deterioration in the external environment will persist, weakening both the operation of financial markets and the economic growth of the countries that have so far remained relatively unscathed by the debt crisis. An additional risk is that continuously low interest rates may stimulate appetite for higher risk-taking.

Credit risks related to Estonia's households and companies have gradually decreased owing to economic growth. Deterioration in the quality of banks' loan portfolio is believed to have bottomed out in the third quarter of 2010. Eesti Pank's forecast expects loan quality to continue to improve in 2011, resulting in a decrease in the share of loans overdue by more than 60 days to some 5% by the end of the year. Banks' profitability is on the increase, which, in turn, contributes to growth in the banking sector capitalisation.

The general risk assessment of the Estonian financial stability has not deteriorated over the past half a year, but risk factors have changed. External assessments of Estonia's credibility will improve, owing to the country becoming a full member of the EMU, which will have a positive impact on the financial-sector working environment. However, as Estonia's participation in the Eurosystem monetary policy framework is a new experience, liquidity and operational risks related to the adoption of the framework will be somewhat higher during the next half a year.