Estonia’s Economy Grew against the Backdrop of Weak External Environment

Kaspar Oja
Kaspar Oja
Eesti Pank, Economist

According to preliminary estimates, the Estonian economy expanded 1.7% in the third quarter compared to the second quarter and 3.4%, year-on-year. Looking at the data on the first three quarters, Estonia’s 2012 economic growth may turn out to be faster than Eesti Pank forecasted (2.6%) in June.

Though the third-quarter growth was surprisingly rapid, several indicators refer to continued high uncertainty regarding the external environment. The economic growth of Estonia’s main trading partners Finland, Sweden and Russia has slowed. The economic situation in the euro area is still weak with no hope of an improvement in the near term. At the same time, optimism is increasing owing to the steps taken by the governments of several euro area countries to alleviate imbalances. This has contributed to an increase in competitiveness, but a lot of reforms are still in the pipeline.

Against the backdrop of the weak external environment, the manufacturing sector inspires optimism. Although the sector’s contribution to growth was still negative in the third quarter in annual comparison, the quarter-on-quarter expansion was positive. The increase in industrial production in summer refers to the strong competitiveness of the Estonian economy. This may be the factor that will boost growth irrespective of the unfavourable external environment. Closing down plants in Nordic countries may in some cases add orders to manufacturers operating in Estonia.

Like in the first half of the year, the third-quarter economic growth was driven by domestic demand. Retail sales and capital goods imports increased rapidly. The latter refers to active investment in machinery and equipment in Estonia. Developments in construction-related industries hint at a slowdown in construction growth. Slowing wage and employment growth inhibits households’ budget growth, limiting consumption possibilities in the future.

All in all, the Estonian economic situation is relatively good at the moment. Though growth in the external environment has slowed, domestic economic imbalances are less pronounced than prior to the crisis.

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