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Thursday, January 29, 2009

Message To Ilmars Rimsevics


"devaluation is a poison" and that "only pseudo-economists suggest Latvia devalue".

In this regard, it might be appropriate to consider the analogy with a pile of sand presented by the science journalist Mark Buchanan in his book Ubiquity: Why Catastrophes Happen. As a child, almost everybody has been building sand castles. We remember quite well that initially every single grain of sand which is added to the pile makes it bigger. In time, however, a certain point is reached, where the next grain causes a landslide instead of adding to the size of our edifice. Moreover, it is important to note that it is next to impossible to predict either which particular grain of sand will cause the landslide or how great and significant it will be. The author has a theory that this unpredictability is related to the instability that is unavoidable in the development process of any system. According to this theory then, even the most important events do not have special or extraordinary causes. These events can result from any, even the most insignificant of causes: a mere grain of sand that under different circumstances would probably be totally inconsequential and harmless.
Opening Remarks by the Governor of the Bank of Latvia Ilmars Rimsevics, Conference hosted by the Bank of Latvia - Latvia on Its Way to Prosperity: Growth Potential and Development Prospects, October 18, 2006.

I have one simple question. Given the latter, how can you be so sure of the former?

More opinions today.

Baltic Business News quotes economic analysts Hardo Pajula to the effect that the EEK has already effectively devalued, sinceit has lost its value since if a person loses half of income, "it’s the same as devaluation" (is this so hard to see, Edward).

“Devaluation is worsening of everyone’s standard of living at once and we have no escape from that in the near future. EEK has devalued for many of us since their incomes are smaller. Currently the devaluation moves from an individual to individual,” Pajula said.

Also Erkki Raasuke, Swedbank Baltic CEO has warned that "if the state cannot make the necessary cuts we’ll all go bankrupt".

“If Estonia can’t go necessary cuts, we’ll go bankrupt. There are examples to take and one should mostly look at Iceland. Problems are different, but it still should be terrifying enough to discipline us,” Raasuke said. “One option is devaluation here and not with all its destructive after-effects. Then we have that option politicians currently try to do – through deflation, decreasing the costs. Here the first question is discipline – are we capable of doing it? If we hesitate, we should pick the first option,” Raasuke said.

Please feel free to paste more "pseudo economic" opinions in comments if you find any.

Are Baltic labour markets really so "nimble", Maive Rute, SMEs’ competitiveness director at European Commission doesn't seem to think so:

“The relative inflexibility of the labour market is an issue that decreases the entrepreneurs’ readiness to create jobs and that especially affects the potential investors, who are interested in the attractiveness of the area. Our current legislations are rather inflexible compared to that of the EUs,” said Rute about the Commissions’ recommendations at that time.

Also Latvia's president Valdis Zatlers said on Tuesday that the country may fall deeper into recession than the 5 percent downturn currently forecast. If this is correct, then Latvia's situation would seem to be more critical with every passing day. Latvia's problems as a result of Parex (and related items) seem to be much more serious than Estonia's (ie it would be technically easier for Estonia to devalue), and the threat of credit downgrades and government debt which may be pushed over 60% of GDP put the eurozone 2012 exit strategy increasingly at risk. I think instead of talking about pseudo economists it would be better to come up with some practical solutions which have some hope of success. I think it reasonable to ask everyone to make sacrifices in a situation like this, but only sacrifices for a programme that can bring results.


Erkki Raasuke, head of Swedbank Baltic unit also said that Estonia needs to cut state spending by 30 percent or face “bankruptcy.


Anonymous said...

There are some rumours circulating in some Estonian-language blogs that "D-day" (as in, devaluation day) is going to happen on February 1. They point to various members of parliament who have been spotted on shopping trips, presumably getting the most value for their EEK while it's still overvalued.

Of course, that isn't such great reasoning since they could just convert all their holdings into EUR today at the fixed rate.

The thing I wonder about -- what is the "premium" (err.. cost) to having so much of the public thinking devaluation is a real possibility (the spread on EEK vs. EUR deposits is around 2%), yet the government not actually doing it? Wouldn't it be more efficient just to do it and get it over with, so that there is no more speculation?

Miacek said...

I'd say it's unlikely to happen in Estonia soon. I think Latvia would be the first to devalue in the Baltics.

Anonymous said...

Rumors - rumors D-day on 01.02.09?!

Anyway on Monday goverment special meetings regarding crisis will be held both in Tallinn and Riga.

Ingrida said...

Dear Edward,

I hope that Mr. Rimsevics is indeed reading you. The good news is that the Latvian press has FINALLY started a bit of real debate on economic issues, including devaluation. Perhaps you inspired them. My question for you is this: is the extensive gray economy here factored into the analysis done by you or anyone else? Is there any way to know for sure what the situation is and will be? My daily experience is...lots of cash transactions.

Edward Hugh said...

Hi Ingrida,

"is the extensive gray economy here factored into the analysis done by you or anyone else?"

Basically yes, since on EU harmonised GDP methodology there should be an element in official GDP numbers to cover this. The situation is little different in Southern Europe.

But anyway, this is only relevant when it comes to comparing living standards. When we are talking about the solvency of states and pension systems then the informal economy doesn't matter since they don't pay taxes, although the people who work in it later need pensions and medical treatment.

The big danger at the moment is that the contraction and deflationary cost squeeze drive many more people back into the informal economy, thus pushing up the budget deficit. Remember, a significant part of the recent wage inflation was the result of "whitening" wages which were already being paid informally.

Edward Hugh said...


Just to mention this. The Baltic countries do not only need to think about each other, the main rivals for the export markets of the future have to be in the CEE. I simply can't see how all the peg defenders can be so complacent about exports, they are going to be vital, in all three countries.

Meanwhile the Hyrvnia, Czack Koruna, Ruble, Zloty, Leu and Forint all continue their downward path. Here is some stuff about the forint. Incidentally, I'm not saying that any of this is easy. There is no easy path, but somehow or another you have to restore competitiveness. Productivity imrovements alone won't do it, since the gap is just to big.


Hungary’s forint fell to a record against the euro, extending its biggest monthly loss since the introduction of the common currency, on evidence the economic slowdown that triggered an international bailout is worsening.

The forint lost as much as 2.8 percent after the nation’s statistics office said unemployment rose to the highest in nine months and producer-price growth slowed more than forecast. The currency dropped 11 percent against the euro this month, the worst performer in eastern Europe, heading toward a key level of 300.

“There’s every possibility that the forint will break through 300 per euro in the next few days,” said Jon Harrison, an emerging-markets currency strategist at Dresdner Kleinwort in London. “Hungary is a small, open economy affected by the slowdown in the euro zone, there is some political risk and concern whether it’s able to maintain the IMF conditionality.”

In exchange for the IMF-led loan Hungary agreed to accelerate budget deficit cuts. Finance Minister Janos Veres pledged to meet the government’s target for the budget deficit this year, even at the cost of spending cuts, according to analysts at the nation’s largest lender OTP Bank Nyrt.

The forint, which weakened with the Czech koruna and Polish zloty, was at 297.98 per euro by 5:27 p.m. in Budapest, after sliding to a record 299.25. It lost 3 percent this week.

Since the beginning of this year, it lost 11 percent against the Swiss franc, which is popular for foreign-currency mortgage loans in Hungary because of lower borrowing costs. Weakening forint means increasing debt burden for households.

The Polish zloty depreciated 1.3 percent to 4.4526 against the euro, after falling to 4.4716, the lowest level since August 2004. It has lost 6.8 percent this year.

The currency was hurt by speculation the slowdown in eastern Europe’s biggest economy may deepen and the central bank will lower interest rates further to cushion the slump.

A rate reduction is “possible” in February and expansion may slow to between 1 and 2 percent this year from 4.8 percent in 2008, central banker Andrzej Slawinski told Polsat News channel today.

The Czech koruna weakened 0.9 percent to 27.922 against the euro. The Romanian leu lost 1.1 percent to 4.2957 per euro and the Turkish lira declined 0.7 percent to 1.6490 versus the dollar.

Anonymous said...

Latest news:

Today in Latvia goverment also ex-PM-s and ex-presidents had a meeting in Riga. Subject of discussion is crises in economy.



Estonia, political parties in coalition have all weekend long meeting regarding crises, so far it seems finance minister feels better than yesterday.


Anonymous said...

Tallinn, a lot of stories, discussions in media suggesting delfation, to be better, over devaluation.


Riga - nothing special :)

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