This year's fiscal situation owes to previous years' decisions to hike fixed costs, which, coupled with a cooling economy, will lead to a deficit of €1.7 billion or 4.3 percent of GDP, the Finance Ministry's spring economic forecast finds.

Ballooning interest costs due to Estonia's growing public debt and soaring interest rates further complicate the situation. Compared to the 2023 state budget forecast, deficit will grow by 0.5 percent of GDP and by 1.5 percent of GDP by 2026.

The deficit will grow in the central and local government budgets as both are affected by lower-than-forecast tax receipt and growing interest payments.

The public sector loan burden will grow to 20.2 percent of GDP this year, hitting 33 percent of GDP by 2027 [based on recent trends].

The ministry forecasts the Estonian economy to contract by 1.5 percent this year, with growth returning in 2024 at 3 percent.

There is a wide gap between nominal and real growth now. While the Estonian economy is still growing rapidly when measured in euros, or nominally, real GDP is in recession and Estonia is among the back markers in Europe.

The Estonian economy shrank by 1.3 percent last year, and even though the outlook is better for this year, this will not be enough to return things to the black, the ministry writes, adding that the future seems somewhat brighter as most countries are already seeing recovery.

"Confidence in the EU gives us hope Estonian export will start growing again. Goods export suffered a major setback in late 2022, which continues into this year as more expensive raw material, especially in the timber industry, is hampering competitive ability. The stare of Estonian exports in the world will also fall in 2023."

But the labor market situation remains robust. Unemployment stayed below 6 percent in 2022, while salary growth came to 9 percent, with the latter forecast to be repeated in 2023. However, because price advance is keeping pace, the average salary's purchasing power will not grow this year.

"Savings were no longer enough to offset price advance in the second half of the year [2022], and consumption started falling.

Even though the inflationary peak should be behind us and come down to 5 percent by year's end, falling savings and bigger home loan payments mean that purchasing power is dwindling. The ministry puts 2024 inflation at 3 percent.

Even though nominal retail is still growing due to price advance, real retail sales have been in decline since the fall of 2022.

The forecast puts average price advance for 2023 at 9 percent.

Housing investments are forecast to come down due to soaring interest rates. But the low is forecast to be relatively short and the real estate market expected to bounce back despite high interest rates as the labor market remains robust.

The public sector is forecast to support investment activity as the resources of the outgoing EU funding period are utilized.

Kadri Klaos, head of the state finance service of the Finance Ministry, said that the ministry lowered coming years' tax revenue forecasts by €200 million compared to the current state budget strategy.

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