Economic policy statement of Eesti Pank

The euro will stimulate the recovery of Estonia's economic growth

The global financial crisis, which intensified in the second half of 2008, continues to affect both the global and the Estonian economy. Whereas the risk scenario of Eesti Pank's interim forecast published at the beginning of the year expected our main trading partners' economic downswing to average to up to 3% in 2009, now a contraction of nearly 4% is expected. Such changes in the external environment exert a profound impact on the growth outlook for Estonia's small and open economy. According to Eesti Pank's spring forecast, this year's economic downturn in Estonia will be around 12%. The majority of economic experts do not expect growth in the world (and also in Estonia) to resume before 2010. In 2011, Estonia's economic growth should recover to almost 5%.

At the same time, it is not yet clear how broad-based and how long the current recession will be. If our main trading partners' growth recovered faster, it would also give impetus to Estonia's economic activity, whereas a protracted global economic downswing would put a drag on rekindling growth here.

The clear perspective of joining the euro area increases markedly Estonia's credibility and serves as the main factor supporting our economy in the near future. The objective of adopting the euro needs to be borne in mind when planning any economic policy measures. A postponement of the euro objective would make the return to a sustainable convergence path more challenging in the current global financial crisis situation. Taking into account the overall decline in prices, Eesti Pank's spring forecast considers it likely that Estonia will be able to meet the Maastricht inflation criterion, which has so far been a problem, already in autumn 2009.

Owing to the economic adjustment process, which started in Estonia at end-2007, several risk factors are withdrawing rapidly. The current account, i.e., the spread between savings and investment, is likely to yield a surplus this year. The diminishing of earlier imbalances also supports the revival of growth. The labour market corrections that followed rapid wage growth often overrunning productivity, the deceleration in inflation along with a slight fall in prices, as well as the declining debt burden in several sectors of the economy should be highlighted in this respect. According to Eesti Pank's forecast, the average price level will not change in 2009 and is expected to decline by 3% in 2010.

In order to adopt the euro, additional fiscal consolidation efforts are needed. Based on the central bank's spring forecast, nominal GDP will be markedly lower over the next years compared to 2008. The forecast's base scenario states that, based on the data available in March, the government needs to improve the fiscal balance by nearly 8.5 billion kroons in 2009 to achieve a deficit below 3% of GDP. Several measures already endorsed or currently discussed have less ambition. The government's failure to meet this criterion in 2009 may result in a prolonged recession.

Budget balancing measures are indispensable not only for meeting the Maastricht criterion. It is important to bring public finances in line with the changed economic environment and to ensure long-term fiscal policy sustainability. The national budget strategy, which is to be reviewed this spring, is expected to answer the question when Estonia will regain balance between consolidated budget revenue and expenditure and start restoring its fiscal reserves. This is why the measures planned for 2009 and 2010 should be viewed as an integral package. One of the main lessons to be learnt from the current recession is the great significance of extensive liquid public-sector reserves in safeguarding Estonia's economic security and cushioning the impact of unanticipated changes in the economic environment.

The earlier credit boom supported growth regime has been replaced by tighter credit conditions. Both banks and investors have become notably more cautious. However, banks in Estonia have sufficient funds to support restructuring in both the business sector and the entire economy. Lending decisions should be based on favourable medium-term and longer-term economic outlooks, since Estonia's economic convergence, i.e., the movement of our income level towards that of EU richer countries, will continue also in the future. This is supported by sustainable fiscal policy and Estonia's accession to the euro area as soon as possible.

Key economic indicators for 2008-2011

  Eesti Pank's forecast       2008       2009    2010    2011
(EEK bn)
Base scenario 248 214 204 214
Optimistic scenario for external environment 248 226 218 238
Pessimistic scenario for external environment 248 208 184 178
Real GDP
growth (%)
Base scenario -3.6 -12.3 0.2 4.7
Optimistic scenario for external environment -3.6 -8.4 1.2 5.4
Pessimistic scenario for external environment  -3.6 -15.3 -4.6 1.9
Base scenario 10.6 -0.5 -2.9 -0.8
Optimistic scenario for external environment 10.6 -0.4 -1.5 1.1
Pessimistic scenario for external environment 10.6 -0.6 -4.0 -3.0

*   Forecast.