Estonia’s economy contracted at the fastest year on year rate in at least 15 years in the fourth quarterof 2008. Commenting on the news the Estonian Finance Ministry restricted himself to the obvious, "the recession may deepen this year", he said. The economy shrank an annual 9.4 percent, the second-worst performance in the European Union (after Latvia), following a 3.5 percent year on year contraction in the third quarter. The contraction was 4.2% quarter over quarter. That is 16.8% annualised. Absolutely horrible.
“This is the worst economic crisis in Estonia since Estonian independence” in 1991, Lars Christensen and Violeta Klyviene, analysts at Danske Bank A/S said in an e-mail today. “Nobody can now deny that the crisis in the Baltic economies is at least as bad as the Asia crisis of 1997-1998 or the Argentinean crisis of 2001-2002.”
10 comments:
Still, devaluing currency is highly unlikely.
Heres why: nobody gains from it!
1) virtually all mortgage loans are in euros, thus devaluing would be political suicide as devaluation would increase monthly payments in kroons, but salaries remain at current level in kroons.
2) 2/3 of savings are also in foreign currency. thus the wealth that devaluation should wipe out is not.
3) export sector gains almost nothing, as Estonia lacks mineral resources. all materials and resources are imported, value is added and then again exported. only thing added here is labour. and as we can see right now, salaries are falling fast. some analysts estimate, that average salarie will decrese by 15% in 2009. being already decreased in 4Q08.
Unless the government orders banks mandatory to change the mortgage currency from euros to kroons and just then devalues the kroons. This way the banks rather than people will bear the costs.
unrealistic.
Hi both of you,
@ Nutt ja Hala,
"unrealistic."
Well look, possibly everything in the Baltics is unrealistic right now, since you are in such a mess, and with it double bind to boot (ie this option is a bad one, and that one too). I argue for devaluation, not because it is easy, but becuase it makes the massive price correction easier.
This correction has hardly begun looking at the CPI data. And to boot in Latvia they had the crazy idea of raising VAT, which really will sink them like a stone. Prices need to come down, not go up.
The equilibrium point facing you is the one where the current account deficit equals zero, since external financing is no longer available. You can either get to this by cutting imports below the level of exports (remember after all the years of borrowing you have a rising income deficit to remember in the current account, this will only start to fall as you pay down the debt, ie run big trade surpluses. Correcting via dropping imports means a large drop in GDP and living standards, maybe between 20% and 30%, are you ready for this? Is this realistic?
Or, you can reduce imports to some extent and increase exports (or do some import substitution, which amounts to the same thing) by devaluing. I agree this isn't painless, but at this point nothing is painless. Speak with all the people who were telling you you would have a soft not a hard landing if you don't like this.
Now the same people are telling you you can do it less painfully by internal deflation. They were wrong the first time, and now they are wrong again on this. The whole history of attempted internal deflations of this order is that they are very hard on the local population, and that they normally don't work, since the people run out of patience.
The IMF already know this, they have seen it in country after country during a financial crisis.
So in the end you fold, and you get the devaluation anyway, only now it comes after a lot of suffering, and causes political chaos. Just look at what is starting to happen in Latvia, and I dread to imagine what will happen in Bulgaria.
I mean, sorry to be rude, but you need some people who understand complex macro economic dynamics running things. Right now you don't have them. These bank analysts I am sure are good people, struggling hard to do a job, but they are right out of their depth on something like this.
And then you have to add in the ageing and contracting population issue, which means it is very unlikely domestic demand will ever be a driver of growth again. Look at Germany, or Japan, or now Hungary. All these are, structurally now, exports lead economies, and there is no turning the clock back.
"virtually all mortgage loans are in euros, thus devaluing would be political suicide as devaluation would increase monthly payments in kroons, but salaries remain at current level in kroons."
This si the point, this is a political not an economic argument. As Krugman pointed out, doing it via price deflation (internal devaluation) has the same effect (there is really no avoiding the defaults and debt restructuring at this point), with the rather harsh added impact, that those who were prudent enough to take their loans out in local currency are pushed into default too, as high unemployment and sharp wage cuts (over several years) make the loans unsupportable.
"2/3 of savings are also in foreign currency. thus the wealth that devaluation should wipe out is not."
This is good news isn't it. After the devaluation these people can simply move their money back into local currency and you will have a nice source of working capital.
"export sector gains almost nothing, as Estonia lacks mineral resources."
Well, all you are telling me here is that you are destined to be a poor country since you have nothing to sell. This may be the case, but do you not have any human capital, which can produce things you can sell if the price structure was right? If your view that Estonia cannot export to pay for the raw materials she needs, then the only thing I can recommend if to abandon ship, move to countries which can export, and send what money you can back to help keep the old folks back home alive. This is very drastic, and I hope it doesn't come to this, but with everyone determined there can be no exports, then obviously there won't be, and then you need to factor that in to your future, since something we do know here is that each of us only gets one life. Or are you a Buddhist perhaps :).
@ anonymous:
"Unless the government orders banks mandatory to change the mortgage currency from euros to kroons and just then devalues the kroons."
I am with you completely, when we are talking about a country faced with collective extinction everything is realistic.
Also, here's an anecdotal comment I got on another blog from a reader in Russia. As you can see, the Russians are not folding their arms and saying "exports, what exports", they are even selling steel to China at the moment, and that really does take some doing. But then they are getting desperate too, just go down to the railtrack, and take a look at the thru freight, and which way it is moving.
Incidentanly, I'm in Ufa, in the deep Russia in the Urals, now and for the next 2 months. I was here in the past May and June for 2 months also.I want to report some direct evidences that reaffirm what we are all saying. After the Ruble weakening, the shelves in the malls are getting empty. the possibility to choose have incredibly lowered, in many places I did not find ananas, tuna, olive oil and many other normal imported products. In the past summer, here around Ufa, Kazan, Magnitogorsk and other cities in the region I was surprised to find so many Latvian and Baltic products, not only food but also cosmetics, clothes, accessories. Now they are simply desappeared, even searching carefully I was not able to find any Baltic cheese.
Estonia has chosen hard way. deflation and recession over devaluation. we have third quarter of negative growth already (2Q, 3Q and 4Q of 2008) and 1Q09 is going to be even worse (my datapoints suggest).
here's the point foreigner analysts cannot understand. how can salaries go down and prices too (same effect as devaluation). they can, at least here.
2 years ago I was buying milk for 17 kroons a litre, now it's 5.80. Central heating is getting cheaper retroactively!
statistics are showing it too, prices declined on MoM basis from Dec to Jan. from 12% inflation to deflation in a year.
as I mentioned earlier, human capital is getting cheaper. by some estimates by 15% this year, being already cheaper last year.
so this point doesn't support devaluation.
I agree, nothing is painless right now, hard choises must be made.
probably coalition government will fall and then I really hope that Mart Laar will become prime minister again. In my mind, he is the only one able to make hard decisions.
Hi again,
"here's the point foreigner analysts cannot understand. how can salaries go down and prices too (same effect as devaluation). they can, at least here."
I'm not dsure nationality has much to do with this, but still, analysis is analysis, even if I was Chinese or Indian :)
Now,
"statistics are showing it too, prices declined on MoM basis from Dec to Jan. from 12% inflation to deflation in a year."
Well we do have DISINFLATION but that is not the same as deflation. I would be looking at 10% price drops (annual averages) and for about 3 years. This hasn't started yet.
Looking at the core CPI for December (this is the important one, without volatile food and energy) your index still hasn't really started to fall (though I am sure it will), according to December data from Eurostat, which is the latest we have, since Estonia stats don't seem to track the core index, for some reason. The correction simply hasn't started yet, which is why I think you will need 3 years.
This is not simply about wage cuts, it is about falls in the price level. And of course, if your real GDP drops by 10% this year, and prices fall by say 5%, then the fall in current prices kroon output (ie nominal GDP) is going to be 15% ie massive, bigger even than the great depression in the US. You Estonians certainly are made of stern stuff.
Also, import producer prices are falling faster than export ones (down 2.8% in December over November, while export prices were only down 0.5%) so again, your relative terms of trade deteriorated, which isn't surprising with the Poles, Ukraines, Czechs, Swedes, British, Hungarians and Russians all devaluing like mad.
A long road to travel, I'm afraid.
My only real question at this point is whether your nominal GDP will come to a stop at the 2003 level (good result), or at the 1999 one (very hard landing).
I am willing to be proved wrong, but I await data to establish this, and I am looking to see what happens to the politics.
Nutt ja Hala wrote:
2) 2/3 of savings are also in foreign currency. thus the wealth that devaluation should wipe out is not.
Where do you get this information from? Here's the report on money supply directly from the Estonian central bank:
http://www.eestipank.info/dynamic/itp/itp_report.jsp?reference=135&className=EPSTAT&lang=en
and it specifically lists deposits in foreign currency vs. EEK. The majority of savings are in EEK.
As for Estonia's small export sector and how devaluation won't make a difference. Maybe the reason for the low export sector in the first place is an overvalued EEK?
For example, why when you go to the shops do the cucumbers come from Spain, the onions from Holland, and the potatoes from Poland? All these goods are grown in Estonia as well, but apparently it's cheaper to buy them abroad and ship them here. Overvalued EEK.
I have been reading and commenting this blog for long time now. (Industrialist in Latvia)
Now I have decided to leave this country, might be even move to other area in the world.
I would just juse termin from Mr Spolitis (http://spolitis.blogspot.com/): "
Political science is powerless here, and psychiatrist is needed to evaluate the state of mind of those "governing" Latvia today..."
Shortly: it really sucks to have such people running our states here in Baltics!
Edward, I wasn't referring to estonians, rather eastern europe. in west, it's impossible to lower wages, unions will go crazy.
anonymous, spanis tomatoe is cheaper because it subsidised by EU. farmes in new EU (eastern block) get less than half what western counterparts receive.
Hi again Nutt ja Hala,
"in west, it's impossible to lower wages, unions will go crazy."
Well, I just hope you are wrong, becuase where I am situated here in Spain we have problems that are not at the end of the day that different from those in Estonia, so if we can't do internal correction (more or less 20% down, prices and wages, my estimate) then Spain will quite simply go bust, and the Eurozone will explode).
And we haven't got too long. Maybe 2 years maximum. Fasten your seat belts, Estonia may be preparing to enter a block hole.
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