1

Different crisis solutions and common future challenges for the Baltic Economies

Jekaterina Rojaka

DNB Chief Economist | Baltics

November 24, 2011

Economic Crossroads: From Recovery to Sustainable Growth in the Baltics and EU

2

Last decade the Baltic economies grew at a solid pace

Real GDP, 2000 = 100%

100

110

120

130

140

150

160

170

180

190

2000 2002 2004 2006 2008 2010

Lithuania

ES-27

Estonia

Latvia

GDP per capita, PPS, EU-27 = 100%

10

20

30

40

50

60

70

80

90

100

2000 2002 2004 2006 2008 2010

Source: Eurostat

3

The Baltics are again among the EU leaders according to economic growth rates

Real GDP, annual change, %8.9

6.25.5

4.6 4.2

2.6 2.6 2.2 2.1 2.0 1.9 1.91.3

0.8

-0.8

-7.7

0.80.9

3.9 3.8 3.4

Est

on

ia

Lith

ua

nia

Sw

ed

en

La

tvia

Po

lan

d

Ge

rma

ny

Fin

lan

d

Slo

vaki

a

Cze

ch R

ep

.

Be

lgiu

m

Ne

the

rla

nd

s

Fra

nce

EU

-27

Hu

ng

ary

Bu

lga

ria

Ire

lan

d

Italy

UK

Sp

ain

Po

rtu

ga

l

Gre

ece

2011 IH 2010

Source: Eurostat

4

While EU old-timers are out of steamReal GDP annual change in 2011, %

2.4

1.6 1.4

5.0

3.02.5 2.4

1.71.4

9.5

8.47.9

3.5

5.6 5.7 5.96.5 6.6

4.14.4

4.1

3.4

4.8

I II III I II III I II III I II III I II III I II III I II III I II III

Euro area Germany France Estonia Latvia Lithuania Poland Russia

Source : Eurostat, Latvi’as statistics, Russia’s national statistics

5

Manufacturing indexes change direction

Šaltinis: Eurostat

60

70

80

90

100

110

120

2007

.01

2007

.05

2007

.09

2008

.01

2008

.05

2008

.09

2009

.01

2009

.05

2009

.09

2010

.01

2010

.05

2010

.09

2011

.01

2011

.05

2011

.09

Estonia

Latvia

Lithuania

Manufacturing, volume index of production, sa, 2007.01=100

80

90

100

110

20

07

.01

20

07

.05

20

07

.09

20

08

.01

20

08

.05

20

08

.09

20

09

.01

20

09

.05

20

09

.09

20

10

.01

20

10

.05

20

10

.09

20

11

.01

20

11

.05

20

11

.09

Euro area

Germany

France

Manufacturing, volume index of production, sa, 2007.01=100

6

Entering an outlook downgrading cycle again…

-6

-4

-2

0

2

4

6

8

20

11

20

12

20

11

20

12

20

11

20

12

20

11

20

12

20

11

20

12

20

11

20

12

20

11

20

12

20

11

20

12

GermanyFrance Italy Greece Euroarea

LithuaniaLatvia Estonia

Autumn forecast

Spring forecast

European Commission real GDP forecasts, %

Source: European Commission, OECD, World Bank

OECD real GDP forecasts, %

2.6

3.1

2.0 2.0

1.5 1.5 1.6

0.3

2011 2012 2011 2012

US Euro area

Spring forecast

Autumn forecast

World bank real GDP growth forecast

2009 2010e 2011f 2012f 2013f

High income -3.4 2.7 2.2 2.7 2.6Euro Area -4.1 1.7 1.7 1.8 1.9United States -2.6 2.8 2.6 2.9 2.7Developing countries 1.9 7.3 6.3 6.2 6.3China 9.1 10.3 9.3 8.7 8.8Russia -7.8 4.0 4.4 4.0 4.1India 9.1 8.8 8.0 8.4 8.5

7

Stock market faces high volatilityStock indices (2008.01 = 1)

0.0

0.2

0.4

0.6

0.8

1.0

1.2

20

08

.01

20

08

.03

20

08

.05

20

08

.07

20

08

.09

20

08

.11

20

09

.01

20

09

.03

20

09

.05

20

09

.07

20

09

.09

20

09

.11

20

10

.01

20

10

.03

20

10

.05

20

10

.07

20

10

.09

20

10

.11

20

11

.01

20

11

.03

20

11

.05

20

11

.07

20

11

.09

20

11

.11

Global: MSCIEurope: Stoxx 600Russia: RTSUS: S&P 500

Source: Eurostat

8

Overall confidence drops

Source: Eurostat, Bloomberg

Economic sentiments indices

60

70

80

90

100

110

120

20

08

.01

20

08

.04

20

08

.07

20

08

.10

20

09

.01

20

09

.04

20

09

.07

20

09

.10

20

10

.01

20

10

.04

20

10

.07

20

10

.10

20

11

.01

20

11

.04

20

11

.07

20

11

.10

Euro area

Germany

France

Purchasing manager index, industry

30

35

40

45

50

55

60

65

2008

.01

2008

.04

2008

.07

2008

.10

2009

.01

2009

.04

2009

.07

2009

.10

2010

.01

2010

.04

2010

.07

2010

.10

2011

.01

2011

.04

2011

.07

2011

.10

Euro area

US

9

Germany’s confidence is close to 2008 level

Šaltinis: Reuters Ecowin

Indicator of current situation

-100

-80

-60

-40

-20

0

20

40

60

80

100

20

08

.01

20

08

.04

20

08

.07

20

08

.10

20

09

.01

20

09

.04

20

09

.07

20

09

.10

20

10

.01

20

10

.04

20

10

.07

20

10

.10

20

11

.01

20

11

.04

20

11

.07

20

11

.10

Euro area

Germany

-80

-60

-40

-20

0

20

40

60

80

20

08

.01

20

08

.05

20

08

.09

20

09

.01

20

09

.05

20

09

.09

20

10

.01

20

10

.05

20

10

.09

20

11

.01

20

11

.05

20

11

.09

Euro area

Germany

ZEW, Indicator of economic sentiment

10

Economic sentiments - base for short term forecasts…

Source: Capital Economics

11

And prospects are not bright

Lithuania's real GDP and ESI

-20

-15

-10

-5

0

5

10

15

20

06

IQ

20

06

2Q

20

06

3Q

20

06

4Q

20

07

IQ

20

07

2Q

20

07

3Q

20

07

4Q

20

08

IQ

20

08

2Q

20

08

3Q

20

08

4Q

20

09

IQ

20

09

2Q

20

09

3Q

20

09

4Q

20

10

IQ

20

10

2Q

20

10

3Q

20

10

4Q

20

11

IQ

20

11

2Q

20

11

3Q

20

11

4Q

50

60

70

80

90

100

110

120

Real GDP, annual change, % (lhs)

ESI, 2m FW (rhs)

Estonia's real GDP and ESI

-20

-15

-10

-5

0

5

10

15

2006

IQ20

06 2

Q20

06 3

Q20

06 4

Q20

07 IQ

2007

2Q

2007

3Q

2007

4Q

2008

IQ20

08 2

Q20

08 3

Q20

08 4

Q20

09 IQ

2009

2Q

2009

3Q

2009

4Q

2010

IQ20

10 2

Q20

10 3

Q20

10 4

Q20

11 IQ

2011

2Q

2011

3Q

2011

4Q

50

60

70

80

90

100

110

120

Real GDP, annual change, % (lhs)

ESI, 2m FW (rhs)

Source: European Commission, Eurostat, DNB

12

Where roots of pessimism are coming from?

What to expect?

13

Fiscal prudence in EU deteriorated, Latvia and Lithuania stand among average performance

General government deficit, % of GDP

-31.3

-10.6-10.3-10.1 -9.8-8.3 -7.8 -7.7 -7.1 -7.0 -6.9 -6.6 -5.8 -5.1 -4.8 -4.6 -4.4 -4.2 -4.1 -4.3

-3.1 -2.6 -2.5

0.2 0.2

10.6

Ire

lan

d

Gre

ece UK

Po

rtu

ga

l

Sp

ain

La

tvia

Po

lan

d

Slo

vaki

a

Fra

nce

Lith

ua

nia

Ro

ma

nia

EU

-27

Slo

ven

ia

Ne

the

rla

nd

s

Cze

ch R

.

Italy

Au

stri

a

Hu

ng

ary

Be

lgiu

m

Ge

rma

ny

Bu

lga

ria

De

nm

ark

Fin

lan

d

Sw

ed

en

Est

on

ia

No

rwa

y

2010 2011 F

Source: Eurostat, European Commission

14

General government debt in most of EU swelled in several years

General government debt dynamics in the Baltics, % GDP

23.619.3 16.8 15.5

29.4

38.0 38.6

12.4 15.09.0

19.8

36.744.7 44.7

5.1 5.0 3.7 4.5 7.2 6.7 6.4

2000 2004 2007 2008 2009 2010 20111H

2000 2004 2007 2008 2009 2010 20111H

2000 2004 2007 2008 2009 2010 20111H

Lithuania Latvia Estonia

Source: Eurostat

General government debt, % of GDP

107 103

25

68 66 65 6444

3645

9

5240

23 17 13 174

145

118

95 9385 83 82 80

61 5545 44 40 39 38 31

167

Gre

ece

Italy

Irel

and

Por

tuga

l

Eur

oar

ea

Ger

man

y

Fra

nce

UK

Spa

in

Pol

and

Latv

ia

Nor

way

Sw

eden

Slo

veni

a

Lith

uani

a

Rom

ania

Bul

garia

Est

onia

2007 2010

15

Financial markets full of fears

Source: Reuters EcoWin

CDS's 5 year, bp

0

200

400

600

800

1000

1200

1400

2008

-10

2008

-12

2009

-02

2009

-04

2009

-06

2009

-08

2009

-10

2009

-12

2010

-02

2010

-04

2010

-06

2010

-08

2010

-10

2010

-12

2011

-02

2011

-04

2011

-06

2011

-08

2011

-10

0

200

400

600

800

1000

1200

1400

Latvia Lithuania Estonia Spain

Portugal Ireland Italy Germany

16

Debt service becomes a heavy burden for some countries

Debt service, % of GDP

2.7

0.7

0.3 0.2

2.7

1.8

1.4

0.10

1

2

3

4

5

6

Gre

ece

Italy

Hu

ng

ary

Be

lgiu

m

Ire

lan

d

Po

rtu

ga

l

UK

EU

-27

Po

lan

d

Au

stri

a

Ge

rma

ny

Fra

nce

De

nm

ark

Sp

ain

Ne

the

rla

nd

s

Lith

ua

nia

Ro

ma

nia

Slo

ven

ia

Cze

ch R

.

La

tvia

Fin

lan

d

Slo

vaki

a

Sw

ed

en

Bu

lga

ria

Est

on

ia

2007 2010

Source: Eurostat

17

Possible solutions of the EU crisis

Expansive monetary policy

• Possible QE starting dates

• Inflation• Redistributing

income

Fiscal tightening

• Strict fiscal policy

• Deflation• Stagnation /

prolonged recession

• Discontent electorate

High probability

Distributing debt burden

• Distributing debt amongst euro zone members

• Recession• Deflation• Anemic growth /

stagnation

Break down of euro zone

• No political consensus

• Flight from EZ• Going bankrupt• Restoring national

currencies• Improving

competitiveness

Low probability

18

Eurobond – panacea, or placebo?

• Put all national bonds in one melting pot, i.e. all euro-zone government debt issued and fully guaranteed by all 17 member states.

• Euro bonds cover up to a debt ceiling (perhaps 60% of GDP), and national bonds – above that.

• National governments offered euro bonds up to a threshold, with limited guarantee from other euro-zone governments.c

• Timing?• Scope?• Effect?

Source: Bloombergm Capital Economics, DNB

19

Solutions of euro crisis to influence economic development in the Baltics

Scenario 1 Scenario 2

Impact on the Baltics Quantitative easing Budget cuts

Inflation

Output, exports

Gross capital formation

Business confidence

Loan portfolio Not to increase or

General gov. debt Unchanged or to increase

Interest expense on debt Relative increase

Unemployment rate Gradual decrease To remain high

Real income , Savings to melt Unchanged

GDP growth Stronger than EU’s average

Stagnation or recession

20

Significant correlation between the Baltic and EU exports

Source: Eurostat

Exports of goods and services, volumes, 2005 = 100

0

20

40

60

80

100

120

140

160

180

200

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Lithuania

Estonia

Estonia

EU-27

21

Global foreign trade growth has been put on haltWorld export volumes, goods, USD mn

0

200000

400000

600000

800000

1000000

1200000

1400000

1600000

2006

-01

2006

-07

2007

-01

2007

-07

2008

-01

2008

-07

2009

-01

2009

-07

2010

-01

2010

-07

2011

-01

2011

-07

0

200000

400000

600000

800000

1000000

1200000

1400000

1600000

World

China

EU

Source: WTO

22

In Lithuania and Latvia current transfers are substantial

Source: Eurostat

Currents transfers (balance) 2010, % of GDP

4.84.3

3.6

2.8

1.81.3

0.80.5 0.4 0.3 0.2 0.1

-0.2-0.6 -0.7

-0.9-0.7 -0.8

-1.0-1.4-1.4 -1.4

-1.7-1.5-1.8 -1.9 -1.9

-3

-2

-1

0

1

2

3

4

5

6

Lith

ua

nia

Bu

lga

ria

La

tvia

Ro

ma

nia

Est

on

ia

Po

rtu

ga

l

Po

lan

d

Ma

lta

Hu

ng

ary

Slo

ven

ia

Cze

ch R

.

Gre

ece

Cyp

rus

Slo

vaki

a

Sp

ain

Au

stri

a

Ire

lan

d

Fin

lan

d

Italy

Sw

ed

en

Fra

nce UK

Ge

rma

ny

Lu

xem

bo

urg

Be

lgiu

m

Ne

the

rla

nd

s

De

nm

ark

Government Other sectors Total

23

Lithuania’s and Latvia’s FDI indicators still petty

FDI per capita, 2010-end, EUR

2967127517

9227 91796924 6712

5254 47843924 3636 3174 2463

Ma

lta

Cyp

rus*

Cze

ch R

ep

.

Est

on

ia

Slo

vaki

a

Hu

ng

ary

Slo

ven

ia

Bu

lga

ria

Po

lan

d

La

tvia

Lith

ua

nia

Ro

ma

nia

*

*Gyventojų skaičius 2010 m. sausio 1 d.

Šaltinis: Eurostat

24

Unemployment melts down, while still high

Source: Eurostat

Unemployment rate, sa, eop, %

7.0 7.59.5 9.6 9.5

4.1

8.0

16.214.6

12.810.9

5.5

10.2

20.117.0 16.1

14.4

4.4

8.2

16.017.3

15.5 14.815.2

17.0

21.1 21.0 21.1

7.3

17.6

32.6

25.9

21.8

8.3

19.6

40.8

30.929.7

9.0

18.3

31.734.2

32.7

20

07

20

08

20

09

20

10

20

11

P1

20

07

20

08

20

09

20

10

20

11

P1

20

11

Q3

20

07

20

08

20

09

20

10

20

11

P1

20

11

Q3

20

07

20

08

20

09

20

10

20

11

P1

20

11

Q3

EU-27 Estonia Latvia Lithuania

Unemployment rateYouth unemployment

25

WARNING: Emigration emergencyCrude rate of net migration plus statistical adjustment*

-4.6-6.2

2.3

-2.1 -2.1

5.6

0.0 0.0 -0.11.4 0.8 1.1 1.7 1.1

2.7 3.1

-0.11.8 2.3 2.7 3.3 2.8 2.5

5.36.7

-0.4

5.9

13.2

-23.7

-7.5

-4.1 -3.5 -3.2

-0.3

-0.1 0.0 0.0 0.4 0.6 1.2 1.2 1.3 1.5 1.5 1.6 1.8 2.0 2.6 2.6 3.0 3.35.2 5.3 5.4

8.2

15.1

Lith

uan

ia

Ire

lan

d

Cyp

rus

La

tvia

Bu

lga

ria

Slo

ven

ia

Po

lan

d

Est

oni

a

Ro

ma

nia

Po

rtug

al

Slo

vaki

a

Fra

nce

Hu

ng

ary

Sp

ain

Cze

ch R

ep

.

Gre

ece

Ge

rma

ny

EU

-27

Ne

the

rla

nd

s

Fin

lan

d

UK

De

nm

ark

Au

stria

Italy

Sw

ede

n

Ma

lta

Be

lgiu

m

Lu

xem

bo

urg

2009 2010

*The ratio of the net migration during the year to the average population in that year. The crude rate of net migration is equal to the

difference between the crude rate of change and the crude rate of natural change

Source: Eurostat

26

Latvia and Estonia still highly leveraged

Šaltinis: Europos Centrinis Bankas, Eurostat

Loans to private sector in 2010, % of GDP

202428

34293231

2726

5857

4538

525049

5659

8170

8161

828584

13379

132

2023

211531283245

593236

4956

4346

565152

3359

5586

6967

8761

140138

RomaniaSlovakia

Czech R.Poland

LithuaniaHungaryBelgiumBulgariaSloveniaFinland

GermanyLatvia

ItalyFranceEstoniaAustria

Euro areaGreece

UKNetherlands

SwedenMalta

PortugalIrelandSpain

DenmarkLuxembourg

Cyprus

Households

Non-financial entities

27

Global competitivness index64

44

33

Sw

itze

rla

nd

Sin

ga

po

reS

we

de

nF

inla

nd

U.S

.G

erm

an

yN

eth

erl

an

ds

De

nm

ark

Jap

an

UK

Ho

ng

Ko

ng

Ca

na

da

Ta

iwa

nC

ata

rB

elg

ium

No

rwa

yS

au

di A

rab

iaF

ran

ceA

ust

ria

Au

stra

liaM

ala

ysia

Isra

el

Lu

xem

bo

urg

Ko

rea

Ne

w Z

ea

lan

dC

hin

aU

AE

Bru

ne

iIr

ela

nd

Ice

lan

dC

hile

Om

an

Est

on

iaK

uw

ait

Pu

ert

o R

ico

Sp

ain

Ba

hra

inC

zech

R.

Th

aila

nd

Tu

nis

iaP

ola

nd

Ba

rbd

osa

sIta

lyL

ithu

an

iaP

ort

ug

al

Ind

on

esi

aC

ypru

sH

un

ga

ryP

an

am

aS

ou

th A

fric

aM

alta

Sri

La

nka

Bra

zil

Ma

uri

tius

Aze

rba

ijan

Ind

iaS

love

nia

Me

xico

Tu

rke

yM

on

ten

eg

roC

ost

a R

ica

Ira

nU

rug

ua

yL

atv

iaV

ietn

am

2011-2012

2010-2011

There are still room for improvement in business climate and competitiveness ratings

Source: WEF, 2011-2012

28

Rising competitiveness and flexibility – key preconditions for sustainable long term growth in the Baltics

• Fostering competitiveness and innovation in production, work organization, production processes, marketing - the key to success.

• Currently, both business and governments should avoid overly ambitious projects with long term repayment

• Actively search for new markets.

28

29

Thank you for your attention!

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