Bank of Estonia forecasts slight recession for 2023

Tallinn city.
Tallinn city. Source: Ken Mürk/ERR

The Estonian economy is on course for a 0.6 percent recession this year, while economic growth will bounce back to around 3 percent in the coming years. Inflation should come down to around 4 percent by year's end.

Conditions for recovery are promising, with GDP forecast to head up in 2023. But because growth will have to be built on the last six months' recession, the Bank of Estonia expects the GDP to be 0.6 percent in the red at year's end.

In the coming years, growth should bounce back to around 3 percent in the wake of foreign markets' recovery, cheaper energy, slower CPI growth, increased purchasing power and consumer confidence.

Higher interest rates mean that loans and investments will grow slower than before the cluster crisis, and their contribution to the economy will be that much more modest.

The central bank notes that uncertainty remains considerable. While it is less in terms of supply chains and energy, war and geopolitical tensions remain high and could notably change economic prospects.

Unemployment is forecast to remain under control as skilled labor shortage is motivating employers to keep workers. Another factor is that sectors hit harder by the energy crisis are not very labor-intensive.

The Bank of Estonia forecasts that unemployment will peak at 7.2 percent this year before heading down again.

Inflation will continue to slow. While it came to 17.6 percent in February on year, this still reflects the sharp price hike of the first half of last year. The price of a basket of goods has grown just 1.3 percent since August 2022.

Inflation is forecast to come down to below 10 percent my mid-2023 and around 4 percent by the end of the year. Higher reference base and slower demand are seen as contributing factors.

Recovery of the average salary's purchasing power will continue and should reach the pre-slump level in 2025.

Salary advance is forecast to remain fast, based on inflation reflecting in salaries and collective wage agreements. Public sector wages are expected to go up 16 percent in 2023.

Fiscal deficit to grow by over €500 million

Estonia's future economic growth will depend on its international competitive ability. Companies' own assessment of their international competitiveness is low. The Estonian economy has usually bounced back in the wake of export, while this might not prove possible this time. The energy crisis and the effects of the war have hurt the availability of inputs and increased their prices more for Estonian exporters than their competitors.

The Bank of Estonia forecasts fiscal deficit to grow by more than half a billion euros to 3.8 percent of GDP this year. Public spending will grow due to public sector wage hikes and investments, while public revenue is falling.

The considerable hike in child benefits and one-time pension hike, coupled with the latter's indexation, also works to hike state spending this year.

The central bank finds that fiscal discipline needs to be restored to avoid loan burden and interest costs growing and alleviate price pressure. Legislation should be aimed at getting deficit under control even if Europe should decide to relax its fiscal rules.


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Editor: Marcus Turovski

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