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Digest: No point budgeting a surplus as inflation eating away at reserves

Indrek Neivelt.
Indrek Neivelt. Source: Siim Lõvi /ERR

Former banker and prominent Estonian entrepreneur Indrek Neivelt said in an opinion piece for ERR earlier this week that there is little sense in budgeting a surplus: the little the country can save up in reserves will be all but wiped out by inflation.

Ever since the first changes to Estonia's tax and budget policy were announced by the government around the Center Party's Jüri Ratas that took over after Reform's fall in 2016, the opposition has been very vocal about the need to "save up for a rainy day" now that the Estonian economy is doing well.

Former banker and financial entrepreneur, Indrek Neivelt, called this "a very clear and logical approach" in a recent comment for ERR, and a piece of folksy wisdom that people have heeded for generations.

Bank of Estonia recommends to save while spending billions on foreign bonds

Still, Neivelt doesn't see much of a point in doing this at the moment. Pointing to recent comments by the president of the Bank of Estonia, Ardo Hansson, Neivelt pointed out that the country's central bank emitted some €5 billion over the last three years in the course of its bond buy-back program. Five billion, he says, that are now mostly outside Estonia, following the agreement with the other European central banks in the matter.

The aim of the program is to keep inflation from going beyond 2 percent, and to stimulate the economy. At the time the program was adopted interests had been close to zero already for years, but that apparently wasn't enough, Neivelt wrote.

Inflation eating away at country's rainy day fund

In principle, such a program amounts to taking 2 percent a year from depositors and use this to relieve those countries who otherwise would face too much debt to handle. Over the years this will then bring debts to a level where those countries can service them themselves. The approach is to distribute the inevitable losses across years instead of having to accept sudden write-offs of debts that can't be repaid.

If the Bank of Estonia now recommends that the government budget a surplus and put money aside for said rainy day, they know full well that this money saved will lose value due to inflation. At the same time, it is buying up bonds from other European countries. "If we earn less on our reserves than inflation eats up, then there is no point to budget a surplus and put money aside," Neivelt wrote.

Estonia's low public debt means borrowing is possible in times of crisis

He went on to point out that there are plenty of areas of the state's activity that are expensive. "Granted, 100 or 200 million are a lot of money, but in the national debt statistic it makes no difference whether our loan burden is 8.5 or 9 percent of GDP. We have no reason to put money aside and let inflation eat it up. If a crisis comes, we can borrow to soften the fall. Estonia is the state with the lowest public debt in the eurozone, and our borrowing power is very good. Even in economic crisis," Neivelt stressed.

"I've said before that we don't need to be this dogmatic when it comes to the budget. We still have reserves from the last crisis that we didn't use up. But we could have. There would have been less of a shock. Today, this money isn't worth as much anymore," he added.

Changes to pension system should have been made at least five years ago

Neivelt also calls for a serious discussion about Estonia's pension system. In a situation where inflation amounts to 2 to 3 percent, holding 60 percent of all the savings in the second pillar funds in bonds is questionable.

"Looking at the productivity of these funds and comparing it to inflation, it's clear that we lose at least 1 percent [of the savings in the funds] every year. We should made changes to this as well at least five or six years ago," Neivelt said.

Editor: Dario Cavegn

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