On 22 February, the Commission published its first winter economic forecast for the euro area and the European Union as a whole. The forecast covers a wide range of indicators including gross domestic product (GDP), inflation, employment and public finances for 2012‑14.
GDP growth is becoming more balanced…
Sound fiscal policy combined with remarkable adjustment capacity of the economy has supported Estonia’s resilience to the sovereign-debt crisis. Estonia’s 3.2% economic growth in 2012 was supported by robust domestic demand and moderate export growth. In 2013, the forecast GDP growth of 3% is expected to be more balanced and should continue to converge to its long-term average trend, reaching 4% in 2014. Risks to the forecast appear broadly balanced and mainly related to the external sector.
... as export growth regains momentum…
Export growth slowed down last year, while industrial production volumes stabilised. This largely reflects a lower growth in manufacturing, and lower demand, notably for oil-shale energy production. As employment continued to grow, this fed into a moderate increase in unit labour costs.
Despite the ongoing economic slowdown of Estonia's main trading partners, the manufacturing and exports of electronic products regained momentum in the course of last year. As productivity growth reverted to positive values in manufacturing, it has broadly equalled wage growth for the country as a whole since spring 2012. In the foreseeable future, the relatively good economic performance of Russia, and Russia's accession to the WTO are expected to have a positive effect on Estonia’s foreign trade. Based on a progressive recovery of Estonia's main trading partners from mid-2013, export growth is expected to continue supporting GDP, with a strong trade surplus in services more than offsetting a reducing trade deficit in goods.
... and domestic demand moderates…
Domestic demand was robust in 2012, supported by a favourable labour market situation and strong fixed investment. Investment growth is forecast to slow down from 23.3% in 2012 to 2.6% this year. The major reason for this slowdown is the contraction in public investment as the majority of projects financed through the revenue from the sale of excess greenhouse gas emission certificates will end and that EU co-funded projects have been completed. In 2013, corporate investment is expected to offset the fall in public investment as export possibilities are set to expand. Backed by low interest rates and a recovering lending activity, private-sector deleveraging is coming to a halt. Nevertheless, the high loan stock will likely remain a drag on credit growth.
Consumption growth was firm throughout 2012, registering only a slight deceleration as retail trade growth slowed to 5-6% at year-end. Rapidly falling unemployment and increasing real wages, combined with a consumer confidence above longterm average, fed into still strong consumption growth which is nevertheless forecast to slow from 4.2% in 2012 to 3% in 2013 as labour income growth moderates. In addition, the planned increase in some benefits and pensions should support the ability of poorer households to cope with high inflation and to uphold consumption.
… in a still broadly balanced labour market …
The unemployment rate (age 15-74) continued to decline rapidly to 9.3% in the fourth quarter of 2012 as output growth rebounded. The labour force participation ratio remained historically high and is assumed to increase further due to the changing age structure. Employment growth has been sustained at 2.6% in 2012, but is temporarily decelerating due mainly to a seasonal effect. Nominal wage growth is expected to stabilise at around 5.4% in 2013 and 6.1% in 2014, with real wage growth increasingly positive at 1.8% in 2013 and 2.9% in 2014. Vacancy rates were again lower, calming fears that skill mismatches could soon push up wage growth even further and hamper competitiveness and recovery.
…with slowly declining inflation
As global commodity prices declined in the last quarter of the year, the 12-month-average HICP inflation receded to 4.2% at end-2012. It is expected to stabilise until late 2013. Inflation in 2013 will be affected by administrative changes that will mainly push prices up: most importantly, increases by 5-6% in alcohol and tobacco excises and the full opening of Estonia's electricity market, which will be accompanied by higher transfer fees.
The introduction of free public transport in Tallinn will offset price increases to some extent. Overall, declining global commodity prices in 2013 and 2014 are assumed to ensure that inflation will continue its slow decline. Finally, as wage growth remained moderate in the second half of 2012 and core inflation remains tamed, there is no short-term risk of significant wage inflation. However, the unemployment rate has already dropped to the NAWRU so that this might become an issue in the coming quarters.
Public finances in order
A deficit of 0.5% of GDP is forecast for 2012. With strong tax-revenue collection and a small budget deficit in November, the fiscal outcome has been considerably better in 2012 than the targeted deficit of 2.6% of GDP planned in the Stability Programme update of spring 2012. This year, one-off expenditure factors will scale down and the budget deficit is expected to improve to 0.4% of GDP. In 2014, the fiscal balance is projected to revert to a surplus of 0.2% of GDP.
The unfreezing of the public wage bill with a planned wage increase of 4.4% for civil servants, along with a pension increase of 5% and a cut in the unemployment insurance premium by 1.2 pps. to 3% as fixed in the 2013 state budget, will add pressures to the budget balance. Local elections in October 2013 might also have an impact on public expenditure. Net of cyclical and one-off effects, the general government structural balance is forecast to have reached a surplus of 0.1% of GDP in 2012 and is expected to fluctuate around balance thereafter. The general government debt will increase over the forecast horizon from 10.5% of GDP in 2012 to 11.3% in 2014, mostly owing to the EFSF and ESM contributions. In addition, a capital injection into the state-owned electricity company is also set to increase the public debt.