Eesti Pank Economic Statement 12 December 2013

Eesti Pank Economic Statement12 December 2013

Key points of the presentation

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• The external environment• Review of the Estonian economy and forecast

for the coming years• Economic policy implications

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The economy has grown in the euro area for two consecutive quarters

• Inflation expectations for the forecast period are in line with the goal of price stability, which in the euro area means annual inflation of below, but close to, 2% over the medium term.

Eesti Pank Economic Statement

2005 2006 2007 2008 2009 2010 2011 2012 2013-6%

-4%

-2%

0%

2%

4%

-3%

-2%

-1%

0%

1%

2%euro area GDP growth, q-o-q (right scale) euro area inflation, y-o-y euro area GDP growth, y-o-y

Source: Eurostat

Growth and inflation in the euro area

Low interest rates are supporting the recovery in the euro area economy

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• Low price pressures mean that financial markets expect interest rates to remain very low

• Forward guidance from the European Central Bank in July said that monetary policy interest rates will remain low for an extended period of time


2011 2012 2013 2014 20150.0%

0.5%

1.0%

1.5%

2.0%June forecast 2013 December forecast 2013

3-month ERIBOR

Source: ECB

The oil price will fall over the next two years

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• Market expectations are for the oil price to fall to 97.5 USD in 2015• Cheaper oil will be a major factor in slowing inflation


2011 2012 2013 2014 201590

95

100

105

110

115

120June forecast 2013 December forecast 2013

Oil price, dollars per barrel

Source: ECB

The euro is stronger against the US dollar than it was in the summer

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• The euro will be stronger than was previously forecast throughout the forecast horizon

• The strengthening of the euro against the US dollar will slow inflation


2011 2012 2013 2014 20151.20

1.25

1.30

1.35

1.40

1.45

June forecast 2013 December forecast 2013

USD and euro exchange rate

Source: ECB

The acceleration in euro area growth that started this year will continue in 2014

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• Economic activity in the euro area will recover only slowly, as it will take time for imbalances to be eliminated

• Inflation has fallen by more than expected, price pressures are subdued, the risks are more towards a rise


2010 2011 2012 2013 2014-1%

0%

1%

2%

3%

economic growth forecast range, December 2013 forecast range, June 2013 point forecast, December 2013

Euro area economic growth

Source: Eurostat, ECB2010 2011 2012 2013 2014

0%

1%

2%

3%

HICP growth forecast range, December 2013 forecast range, June 2013 point forecast, December 2013

Euro area inflation

Source: Eurostat, ECB

External demand has proved weaker for Estonia than was forecast in June

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• Demand in Estonia’s export markets is lower in 2013 than in the previous year• Growth in export markets will again be below the June expectations in the coming years


2012 2013 2014 2015-2%

0%

2%

4%

6%

Sweden Finland Russia Latvia Lithuania other external demand growth, December forecast 2013 external demand growth, June forecast 2013

External demand growth

Source: ECB

The biggest impact on Estonian exports is from Finland, but Latvia, Lithuania and Russia have all had an effect

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• The downward correction in external demand growth is spread evenly across countries for 2014 and 2015 as import demand in Finland will also recover


2012 2013 2014 2015-3

-2

-1

0

1

Finland Russia Latvia Lithuania other difference in foreign demand growth

Difference in foreign demand growth compared with the June forecast (pp)

Source: ECB

Several Estonian economic indicators started to diverge in 2013

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• The slowdown in growth on the production side was not broad-based as growth in value added created in sectors other than transport and storage accelerated

• The rapid rises in wages were accompanied by fast employment growth in the first half of 2013 despite the decline in the economy and the reduction in capital formation


2010 2011 2012 2013-10%

-5%

0%

5%

10%

15%employment real GDP average gross wage GDP at current prices

Growth of economic indicators

Source: Statistics Estonia

Weak external demand has been partially offset by rapid growth in consumption

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• Falling supplies of available labour and the mismatch between the qualifications of those not yet employed and the demands of the labour market created a loop of economic growth based on rapid growth in wages and domestic demand

• Companies focused on the domestic market were able to pass higher wage costs on to prices, so nominal GDP per employee rose while real productivity fell in the first half of 2013


1 2 3 4 5 6 7 8 9 10 11 12 13 14 15-5%

0%

5%

10%

15%average monthly gross wage GDP per emloyee at constant prices GDP per employee at current prices

Growth in wages and productivity

Source: Statistics Estonia, Eesti Pank

Economic growth in 2013 is weaker than was forecast in June

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2010 2011 2012 2013 2014 20150%

2%

4%

6%

8%

10%

1.0%

2.6%

3.9%

0.02

0.04 0.04

December forecast 2012 June forecast 2013

GDP growth at constant prices

Source: Satistics Estonia, Eesti Pank

The slowdown in economic growth this year is temporary

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• GDP growth will pick up in 2014 and 2015 as both domestic and external demand rise


2010 2011 2012 2013 2014 2015-5%

0%

5%

10%

15%

2.6%

9.6%

3.9%

1.0%

2.6%

3.9%

household consumption (pp) gross fixed capital formation (pp) government consumption (pp) net-exports (pp) change in inventories and statistical discrepancy (pp) GDP growth at constant prices

GDP growth by expenditure method


Corporate investment is important for a recovery in growth

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• Fixed capital formation has fallen in 2013 but will start to increase with support from corporate investment, production resources are already being used at close to their historical average levels

2010 2011 2012 2013 2014 2015-30%

-20%

-10%

0%

10%

20%

30%

40%

50%

housing investments business investments government investments

Capital formation, growth


Loan interest rates will remain close to their current levels

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• The good financial position of banks and larger deposits will support lending• Lending growth will accelerate but the volume of loans to the private sector

will continue to fall as a share of GDP


2008 2009 2010 2011 2012 2013 2014 2015-8%

-6%

-4%

-2%

0%

2%

4%

6%

8%

10%growth of loans interest rate of corporate loans interest rate of housing loans

Credit stock growth and interest rates

Source: Eesti Pank

Wage growth will remain strong, employment will fall slightly

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• The decline in the working age population will slow employment growth even as unemployment falls

• Wage growth will remain strong as the public sector payroll will and the minimum wage will increase in 2014 and the minimum wage will rise again in 2015

• Wage growth will come more into line with labour productivity as export opportunities improve


2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015-10%

-5%

0%

5%

10%

15%

20%

25%

40%

42%

44%

46%

48%

50%

52%

share of labour costs in GDP (right scale) employment growth growth rate of the average monthly gross wage

Growth in wages and employment


Unemployment is falling steadily

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• The constant reduction in the number of long-term unemployed has been positive

• The unemployment gap will decrease during the forecast period as structural unemployment falls


2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015-4%

0%

4%

8%

12%

16%

20%

24 months and more 12 to 23 months 6 to 11 months less than 6 months unemployment rate equilibrium rate of unemployment

% o

f la

bour

for

ce

Unemployment rate


Inflation will remain moderate in the coming years

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• Core inflation driven by domestic factors will pick up in the coming years• The effect of higher electricity prices will pass out of the calculation in 2014• The inflation forecast assumes that global prices for oil and food commodities will fall• A possible rise in oil prices and faster wage growth mean that upside risks dominate


2010 2011 2012 2013 2014 2015-1%

0%

1%

2%

3%

4%

5%

6%

2.9%

2.1%

2.9%

core inflation household energy fuels food CPI


CPI growth

The general government budget will be in deficit throughout the forecast horizon

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• The general government position will remain in structural surplus• General government debt will grow more slowly than GDP during the

years covered by the forecast and the debt burden will shrink


2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015-4%

-3%

-2%

-1%

0%

1%

2%

3%

4%

structural budget balance cyclical component temporary measures nominal budget balance

Fiscal stance (% of GDP)


Conclusions of the Economic Forecast


The euro area is exiting its recession

• The economic decline that had lasted six consecutive quarters in the euro area ended, and growth will speed up again gradually in the coming years.

• Growth has been unequal across countries within the euro area, Estonia has been strongly affected by demand in Finland falling behind expectations.

• The economic indicators of countries that have entered the bailout programmes have improved, meaning that confidence about the further recovery in the euro area has improved and the threats to the outlook for growth are reduced.

• The recovery may well prove slow in the euro area as many countries still need to carry out additional reforms and to continue their policy of austerity.

• Monetary policy in the euro area will remain accommodative and supportive of growth for an extended period of time.


The Estonian economy has moved somewhat further away from balance

• Growth slowed in the Estonian economy in 2013, but this was not broadly based across sectors.

• Two of the risks identified in the June forecast have been realised in 2013 as wage growth has become unbalanced and the recovery in external markets has proved difficult. The simultaneous emergence of these features has presented a challenge to exporters.

• The average wage is 7.8% higher in 2013 than it was a year earlier even though production output per employee has fallen.

• Rapid wages have not yet presented an insurmountable challenge to companies focused on the domestic market as they have managed to pass wage costs on into prices, so profits have not suffered significantly.

• Growth in production, wages, incomes and the economy that is based on domestic demand cannot be sustainable in a small country where exporting companies are competing for the same supply of labour.


Increased investments will be required for economic growth to recover and the tensions in the labour market to be eased

• The growth in external demand that started in 2013 and will accelerate in 2014 and 2015 will aid exports and so help the Estonian economy to pick up.

• For companies to make use of export opportunities they need to increase the growth in investments in fixed assets, which came to a stop in 2013.

• Capital formation will be supported by low interest rates on loans and good access to bank lending.

• Investments in increasing production capital and in the supply of capital to labour will help raise productivity and offset the rapid rises in wages and labour costs.


Possible risks

• Although the risks associated with the recovery in external demand are smaller than they were, the uncertainty about growth in Estonia’s export markets has not completely gone away.

• If there is inertia in wage rises, economic growth could be slower than forecast, and this could cause problems for companies in maintaining profitability, resulting in a rise in unemployment.

• Rapidly rising household incomes could combine with low interest rates to accelerate the growth in real estate prices, which are already rising fast.

• The oil price may rise as global demand increases, and this could push inflation up, reduce the real incomes of households and restrict consumption capacity.

• Structural unemployment and labour shortages, partly caused by emigration, may continue to provoke excessive wage pressures, higher inflation and a loss of competitiveness in the exporting sector.


General government financing remains strong

• The government’s decision to focus on the structural surplus may not be justified, given that different indicators give conflicting assessments of the economic cycle. Although the GDP gap is negative, rapid growth in employment, wages and private consumption indicate that the gap may be closing for the tax base.

• The repeated postponement of the target of nominal balance is a threat to strict fiscal discipline and does not allow the state to increase the reserves it would use to balance the economy if the downside risks should be realised.

• Unemployment remaining high even while fairly rapid wage growth is causing imbalances in the economy and restricting competitiveness shows that structural unemployment is high and needs to be reduced through active labour market measures.


Key indicators for the Eesti Pank economic forecast

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Economic forecast in figures

Sources: Statistics Estonia, Eesti Pank


2012 2013 2014 2015Nominal GDP at current prices (billion euros) 17.42 18.39 19.46 20.99Change in GDP at constant prices (%) 3.9 1.0 2.6 3.9CPI inflation (%) 3.9 2.9 2.1 2.9Unemployment rate (%) 10.2 8.7 8.5 8.3Change in average gross monthly wages (%) 5.9 7.8 6.6 7.7Budget balance (% of GDP) -0.2 -0.2 -0.3 -0.1

Eesti Pank Economic Statement 12 December 2013

Economy & Finance

Transcript of Eesti Pank Economic Statement 12 December 2013