The budget brings quite a headache

Drawing up any budget always requires predictions. For the latter, water-proof data are available, occasionally – and just the gut feeling at times. Of Estonia’s budget costs, nearly 90 percent are prescribed by law – adding to heated emotions around the remaining tenth.

As you read this story, ministries are making their appearances before Jürgen Ligi the Finance Minister to defend their spending. Most of them do exit his office with hands quite empty, we hear. No economist or analyst would like to sit on chair of Mr Ligi – with general elections drawing nigh, coalition composed of partners of varying views, and uncertainty abounding in international economic environment, this budgeting will be quite a nut to crack.  

«It will be quite a headache for Mr Ligi to get this budget completed. I quite pity him, he’s not having it easy,» noted Urmas Varblane, a professor of economics at University of Tartu.

As assessed by Rainer Kattel, an economist at Tallinn University of Technology, the first budget will be a bona-fide testing stone for the governing coalition.

«This is a coalition very fresh, only recently did they get together. In a way, in the Estonian situation, this is also a nonstandard coalition. They (Reform Party and Social Democratic Party – edit) both wished to demonstrate how they’d be turning a very new and fresh page. Well this initial budget will be the testing stone if they will manage it otherwise somehow,» he said.

Costly promises

According to Mr Kattel, both parties start by seeking their very own elements in the budget, and as they carry very different ideas, the situation will be complex – at the beginning, at least.  

«I think they will end up not changing much anything as the elections are coming on and it is expedient for both to have a safe and secure budget by which both can win, and not to get it too messy. Perhaps we will see media fireworks, but I don’t think it will have much essence and content,» he suggested.

A lot will also be determined by the costly coalition promises where soc dems, for instance, are vowing higher child benefits and the squirrels say they’re lowering income tax by a percent.

According to political scientist Viljar Veebel, the run-up to elections requires that politicians keep voters satisfied i.e. meet their expectations regarding economic development.

«Thus, to have the electorate feel happy, state budget needs to be two percent above the inflation i.e. public benefits and incomes need to grow. Thus, with inflation at one percent, the ideal would be a budget bigger by three percent, year-on-year,» he said.

Considering the events in Ukraine, say the analysts, more attention will surely be paid to defence spending. As pointed out by Mr Veebel: while defence spending is promised at 2 percent of GDP, as the latter grows defence will get a boost as well.

Even so: with economy not growing, the budget can’t be increased. Truth be told, with Ukrainian crisis underway and the sanctions war raging, it can’t be assured the entire EU economy won’t go into recession again, to say nothing about Estonia.

While at the end of last year economists and the state predicted an average of three percent economic growth for Estonia in 2014, the 1.9 percent drop in the first quarter and the continued shrinkage of export have brought most forecasts down to one percent – which is still optimistic. For many, the 2.2 growth in second quarter feels too good to be true; some think this is a calculation error that occurred as a new accounting method was adopted. Thus, even this year’s results are hard to predict – to say nothing about the next.

According to LHV economist Heido Vitsur, the uncertainly of the foreign political and economic situation may sway our budgetary options by a couple of percents both ways.

«This being force majeure for us, there’s nothing we may do but to go by our best assumptions and to stand in readiness to promptly react to any change in the situation,» said Mr Vitsur.

As pointed out by Prof Varblane, nobody knows what will be with the Ukrainian crisis sanctions budget line. According to him, Europe has also discussed the so-called phase four sanctions which would include a ban on purchases of energy carries like gas, oil etc.  

«Imagine something like that done, even if for a short while,» he said, trying to stress the scope of the uncertainly.

Meanwhile, the existing food exports ban is starting to have an impact on tax revenue.

As also reminded us by Prof Varblane, the last period’s EU money needs to be spent by end of August 2015, but the new money may not be utilised anytime soon. Therefore, 2015 will be among the worst EU money inflow years.

Also pointing to the EU money received, Mr Vitsur also underlined the need for an analysis on how effectively we are using our money after all.

«In an uncertain economic situation or with a small revenue base, I think the problems related to analysis, budgeting, and planning technology are the greatest essential difficulties while putting together the budget. Scarcity requires greater accuracy, but nobody knows what that might mean essentially,» he observed.

Nevertheless, analysts also saw some silver linings; mainly in that, due to new regulations and the diligent job done by Tax and Customs Board, tax revenue is increasing on account of the shrinking black economy – definitely, some effect is felt out of the employees’ register and VAT returns supplementary declarations imposed. Also, corporate income tax revenue seems set to increase as, after a long while, several large foreign companies have announced of intentions to pay dividends.

Call for caution

As noted by Mr Veebel, predictions are necessary and predict we must, as accurately as possible – in spite the difficulties due to equity markets near an all time high, the still smouldering eurozone periphery default and the sharpening EU-Russia confrontation.

«Due to the so-called self-fulfilling expectations and the uncertainty of tax revenue, predictions have a stronger impact on budgets than what a good government desires the citizens to see,» said the political scientist.

«Thus, from the governmental point of view, it is expedient to maintain the optimism as long as at all possible in light of external circumstances, and to hope that if all other measures fail, then, as the final resort, the European Central Bank via commercial banks will extend to us interest-free means which, as they circulate in the economy, will plug the budget revenue holes and add fresh enthusiasm.»

Also, Mr Veebel was inclined to think: why should the government curb economic growth and satisfaction in citizens by preventive austerity, or provoke an outright recession, while on the one hand we have decent Stabilisation Reserve Fund, and on the other hand the public debt is very small –allowing, in the worst-case scenario, to assume cheap debt. Still, he agrees to the recent opinion by Estonian budget committee, that the budget better be more cautious than usual.

Comment

Jürgen Ligi, finance minister

Of this year’s factors, these stand out this year: the ambitious coalition agreement which used up the manoeuvring space though backed up and balanced as a whole; and the worsening of the predictions with downward risks. The latter are mainly due to Russia’s aggression and are forcing us to increase defence spending, impose sanctions, and are deteriorating the conjuncture all the way to trade war. In the economy, just the mood alone equals conjuncture – regrettably.

Of course, elections always have an effect on sensible choices, but for the time being this has only been expressed in media chat about the inexhaustible «state levers», benefits, tax exemptions and construction of railways, not in destruction at talks.

I really do hope reason will prevail as, in the strait times, there are no other options. We have also secured the state and the nation with the [State] Budget Act forbidding overspending and, actually, we did agree in the spring that additional budgetary requests constitute the very table of balance between costs and revenues of the coalition treaty.