Drowsy exports are no holdback for the Lithuanian economy growth
Cheap oil and strong political decisions are expected to stir up Eurozone
Having risen by an estimated 3% in 2014, Lithuania’s economy is forecast to grow 3.4% this year, says the latest quarterly Eurozone Forecast issued by the professional services firm EY. Lithuania, the Eurozone’s newest member will also be one of its strongest, reflecting an upturn in consumer spending, increasing investment and service exports sufficient to offset a continued decline in goods exports.
Eurozone shows positive tendencies as well – stronger recovery of the domestic market, cheaper oil and the European Central Banks’s (ECB) quantitative easing programme will accelerate the Community GDP growth to 1.5% in 2015. EY analysts have, therefore, improved the 2016 forecast to 1.8%, which would be the highest GDP growth since 2010.
“However, unease can be expected in the region due to certain unresolved structural issues, which will hold Eurozone growth at 1.6% per year. Besides, complicated Greece debt negotiations will sustain high financial stability risk in the region”, says Senior Economist for the Eurozone Tom Rogers at Oxford Economics.
Export – no longer the only driver of growth
Last year Lithuanian industrial output was rising 4.3% and, despite lower spirits of exporters due to recent geopolitical and economic tensions, it lifted the country’s GDP to pre-crisis level. This contrasts with other small countries on the Eurozone periphery, which continue to rely on external trade to pull them out of their recessions.
“Decreasing dependency on export is a positive message – accelerating domestic demand should give a stronger lift to the national economy this year compared to our neighbours, which are more dependent on export; they will be held back by slow growth in the other Eurozone members and by the recession in Russia”, says Jonas Akelis, EY Managing Partner for the Baltic States of the professional services company EY.
According to him, although Lithuanian exports have been hit by the imposition of Russian trade barriers, centered on food and other products, progress has already been made in redirecting trade toward the EU markets and to North America and Asia.
Prices – expected to increase slightly
The end-2014 fall in consumer prices is expected to continue as lower energy prices offset any impact of euro conversion and a Q1 drop in consumer confidence tempers retail demand. But indirect tax increases (including a rise in district heating VAT to 16% from 9%) and rising domestic demand will put upward pressure on headline inflation in the second half of this year.
The move into deflation recorded last December has not been deep enough to cause serious deferral of consumer spending until prices drop even lower, and retail sales growth continued through the fourth quarter of 2014, and the trade sector completed the year with 5.8% growth.
Although the impact of deflation will continue throughout 2015 – the prices will drop 0.3% on average, they are forecast to rise again to 0.9% in 2016 and over 2% in 2017. However, if Eurozone monetary policy continues to be relaxed, the prices will not increase significantly and the inflation is set to level out. The differential of domestic inflation over the Eurozone average will not cause a serious increase in relative costs over the forecast period if current favorable trends in productivity growth and quality improvement are maintained.
Declining budget deficit despite extra defense commitment
The pace of GDP expansion in 2015-18 is sufficient to maintain the gradual closure of fiscal deficit, without further spending cuts. The forecast shows this year’s deficit target (1.2% of GDP) being beaten.
“The ruling majority in the Seimas is committed to a substantial rise in defense spending, to the NATO target 2% of GDP by 2020 from 1.1% in 2015, but with revenue now growing cyclically, higher spending on defense will have to be offset with further spending cuts in other departments”, says Jonas Akelis.
Regardless of the opinion of EY Executive Partner in the Baltics, the fiscal deficit of Lithuania is on course to drop to 0.6% of GDP in 2016 and 2017 and then continue falling as revenues rise while higher real wages and a falling unemployment rate (expected to be below 10% in 2016) reduce the social support bill.
Comparison of the key economic indicators of Lithuania and other Eurozone members can be found here: https://www.ey.com/GL/en/Issues/Business-environment/Eurozone-GDP
More information: www.ey.com/eef
EY Eurozone Forecast March 2015 Lithuania (english) (pdf, 791kb)