Country Report Estonia February 2009

Outlook for 2009-10

• Strains within the ruling coalition are likely to deepen over the next two years, possibly threatening its stability. However, even if the government were to collapse, there would be few significant changes in economic policy.
• Political relations with Russia will remain tense, and this will have an adverse effect on Estonia's oil transit business with Russia. However, this is unlikely to have a significant impact on the economy overall.
• The economic slowdown will lead to a shortfall in tax receipts in 2009. The general government budget deficit is set to rise above the Maastricht limit of 3% of GDP in 2009, but we expect it to fall back to 2.8% of GDP in 2010.
• A sharper than previously expected contraction in domestic demand and much poorer export prospects are now forecast to cause real GDP to fall by 2.8% in 2008 and by 5% in 2009 (previously 2.3% and 3.3%, respectively).
• The economy should recover in 2010 as domestic demand stabilises and exports grow more strongly. Real GDP is forecast to rise by 1.1% in 2010.
• Weaker cost pressures and lower commodity prices will allow inflation to drop from 10.4% in 2008 to 3.3% in 2009 and 2.7% in 2010.
• As domestic demand weakens, the current-account deficit is set to narrow sharply, from 18.1% of GDP in 2007 to an estimated 9.6% of GDP in 2008 and 2.9% of GDP by 2010.

Monthly review

• Popular support for the governing Reform Party continues to drop. Problems in paying social benefits to disabled people have led Maret Maripuu, the Reform Party minister of social affairs, to announce her resignation.
• The state budget ended 2008 with a deficit of EEK5.2bn (US$490m), which is over 2% of GDP. Weak value-added tax receipts expanded the deficit and have forced the government to consider sharp spending cuts to the 2009 budget.
• Industrial output fell by 18% year on year in November. Exports in November were also very weak. With retail sales continuing to fall, real GDP may have fallen by around 6% year on year in the fourth quarter of 2008.
• Consumer price inflation slowed to 7% in December as pressures from food and fuel prices eased sharply. The central bank is now more optimistic that Estonia will meet the Maastricht inflation criterion in mid-2010.
• The current-account deficit continued to decline in October and November. Inflows of foreign direct investment (FDI) rose year on year in January-November 2008, reducing Estonia's need to increase foreign borrowing.

Source: Country Report