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The Lithuanian Economy - 2010 September

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Swedbank was founded in 1820, as Sweden’s first savings bank was established. Today, our heritage is visible in that we truly are a bank for each and every one and in that we still strive to ...

Swedbank was founded in 1820, as Sweden’s first savings bank was established. Today, our heritage is visible in that we truly are a bank for each and every one and in that we still strive to contribute to a sustainable development of society and our environment. We are strongly committed to society as a whole and keen to help bring about a sustainable form of societal development. Our Swedish operations hold an ISO 14001 environmental certification, and environmental work is an integral part of our business activities.

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The Lithuanian Economy - 2010 September The Lithuanian Economy - 2010 September Document Transcript

  • The Lithuanian Economy Monthly newsletter from Swedbank’s Economic Research Department by Nerijus Mačiulis and Ieva Vyšniauskaitė No. 04 • 30 September 2010 Public finances are on the right track, but choosing the right austerity measures for 2011 will be crucial  Consolidation measures totalling about 10% of GDP during 2009-2010 helped to regain market confidence. Through eight months this year, the government budget revenue plan has been exceeded by 8.4%.  Most measures, however, seem temporal and unsustainable. Retaining market confidence and achieving the strategic goal to join the euro zone in 2014 necessitate further fiscal consolidation measures.  Any new taxes or increases of the current ones would further dent business and consumer confidence and postpone investments and consumption; the government will have to focus on sustainable revenue sources – more efficient SOEs and a smaller shadow economy. On the expenditure side, structural reforms and a smaller public sector will have to replace outright spending cuts. Public finances steered to calmer income and corporate tax were slightly higher than waters after the storm expected as well, while excise tax revenues fell short of expectations by 8.4%. Lithuanian public finances have stabilised and market confidence has improved since the end of Revenue sources for state government, Jan-Aug 2010 last year, thanks to the bold austerity measures to Income tax, curb the budget deficit, totalling approximately 10% Other, 12.0% 6.1% Prof it tax, of GDP, adopted for 2009-2010. In the first quarter, 3.4% Other tax, the stringent budget consolidation package brought 3.3% some positive developments, mostly in the recognition of the government’s efforts by international institutions and ratings agencies.1 Over the second quarter of the year, the improvement in public finances was clearly visible Excise tax, 20.7% amidst better revenues and some reduction in expenditures. Government budget revenue plan in VAT, 53.8% first eight months of the year was exceeded by 8.4%, supported by unexpectedly strong value- added tax (VAT) collections (exceeding the plan by 22.3%, at close to EUR 1.5 billion). Revenues from 1 In February 2010, Standard and Poor’s ratings agency lifted its outlook for Lithuania to stable from negative on its BBB long- Successful collection of revenues this year can term debt rating; in March, Fitch and Moody’s ratings agencies followed by raising their outlooks on BBB and Baa1 ratings, largely be attributed to conservative planning. The respectively, from negative to stable as well. On 27 Jan, the EU revenue collection patterns this year, however, also affirmed that consolidation efforts were sufficient and raise concerns by indicating signs of a large allowed Lithuania until 2012 to narrow the budget deficit to within procyclical shadow economy. 3% of GDP. First, lower-than-expected excise revenues can be attributed to a jump in smuggling and unaccounted Economic Research Department. Swedbank AB. SE-105 34 Stockholm. Phone +46-8-5859 1000 E-mail: ek.sekr@swedbank.com www.swedbank.com Legally responsible publisher: Cecilia Hermansson, +46-8-5859 7720 Nerijus Mačiulis + 370 5 258 2237. Lina Vrubliauskienė +370 5 258 2275. Ieva Vyšniauskaitė +370 5 258 2156.
  • The Lithuanian Economy Economic Research Department, Swedbank Nr 04 • 30 September 2010 cross-border trade. Second, larger-than-expected Unsurprisingly, because of the rapid build-up of VAT collections and below-budget revenues from government debt, interest payments were up by a income taxes indicate that the shadow labour staggering 84% over the same period. As Sodra market is thriving. VAT collection is less sensitive to (Lithuanian State Social Insurance Fund) the increase in unaccounted income; furthermore, expenditures were continuously larger than informal incomes are “legalised” when making a expected, the deficit continued to widen, reaching purchase. There is a general tendency to avoid EUR 601.4 million in the first eight months of the breaching VAT regulations as much easier year. loopholes exist--for instance, paying personal income taxes. To maximise the gains from the The 2014 euro goal is ambitious, but completion of tax reforms over the medium term, not unattainable the government must recognize that strengthening Despite successful budget consolidation efforts and tax compliance is one of the most urgent tasks that the commencement of the economic recovery in the it faces. second quarter of this year the general government deficit is expected to reach 8% of GDP in 2010 as General government expenditure, 1H 2010 the recovery was primarily driven by exports and restocking. Higher-than-expected revenues this 2.3% Compensation f or employ ees year will be offset by the increase in debt- servicing costs and the omnipresent compliance problems Consumption (goods and serv ices) (regarding income tax and excise collections, for 27.1% Consumption of instance). f ixed capital 41.2% Interest General government finances, 2004 - 2012 (% of GDP) Subsidies 0% 50% 14.1% -1% 45% Grants -2% 40% 7.0% Social benef its -3% 35% -4% 30% 2.1% Other 1.5% 4.8% -5% 25% -6% 20% -7% 15% The decision of the government to use excess -8% 10% revenues primarily for reducing debt rather than increasing expenditure is welcome; this partly -9% 5% explains the signs of stabilisation of government -10% 0% debt: at end- July 2010, central government debt, 2004 2005 2006 2007 2008 2009 2010f 2011f 2012f compared with the previous month, decreased by Debt (rs) Budget position (ls) EUR 208 million and accounted for 33.1% of the projected GDP for 2010. Compared with the beginning of the year, the cost of borrowing has Our forecast of a 6% budget deficit for next year also decreased: in the beginning of September, the assumes further necessary fiscal consolidation government launched a seven-year bond issue in measures – export-led economic growth without a the amount of USD 750 million, with the lowest sizable rebound in consumption and fixed capital coupon (5.125%) achieved for the Baltic region formation will not be enough. In the very unlikely since October 2007. event that no new austerity measures are adopted, the deficit would quickly escalate on the back of Some containment in expenditure areas has also substantial debt-service costs and the expiration of been visible. Over the first half of the year, general temporary measures (for instance, freezes on government2 expenditures overall were down by public wages); as a result, government debt-to-GDP 4.4% compared with the same period a year ago; would exceed the Maastricht criterion of 60% in the wages and social insurance payments fell by 13.2% next few years. year on year, while social assistance payments decreased by 5.1% on an annual basis. It seems that the government is strongly committed to achieving the convergence deficit targets of 6% 2 next year and 3% in 2012, with an ultimate goal of The general government consolidates state government and municipality budgets (the national budget), and extrabudgetary adopting the euro in 2014. Given the rhetoric and social security funds. adopted since the election, which has emphasized 2 (4)
  • The Lithuanian Economy Economic Research Department, Swedbank Nr 04 • 30 September 2010 the importance of the stability of public finances, it more than 1% of GDP. The government is working is very unlikely that the government will stray from on a strategy to make Lithuanian SOEs more this road now, even considering the municipal and effective by increasing their transparency and government elections approaching in 2011 and depoliticising them. One way to do this is to float a 2012. fraction (less than 50%, if they are perceived strategic objects and state ownership is crucial) of General government budget, 1Q 2006 – 1Q 2010 each enterprise’s shares on the equity market – the 300 45 requirement to publish quarterly financial 200 statements would make them more transparent and 100 private capital would keep an eye on obvious acts 30 0 of corruption and inefficiencies. The requirement -100 would also have the positive secondary effect of -200 15 increasing the liquidity of the Lithuanian equity -300 market and adding substantial income to the state -400 0 budget, which would lower debt and its servicing -500 costs. -600 -15 The government should keep moving in the -700 direction of liberalising labour laws and offering -800 -30 incentives to hire unemployed and create new 2006 2007 2008 2009 2010 workplaces. Minimising unofficial income has Budget balance, EURm (ls) Rev enues, y oy (rs) positive effects on both budget income and Expenditures, y oy (rs) expenditure – unjustified unemployment benefits are reduced and income tax revenues are The consolidation package should be broad based, increased. Ending the practice of turning a blind eye encompassing both expenditure and revenue to cross-border smuggling and enacting clear measures. The primary criteria, however, in measures to improve border control (and punish its adopting these measures, especially on the absence) can substantially increase income from spending side, should be clear-cut and, above all, excise duties. should ensure a balance between, on one hand, Doing more with less making short-term savings that can be delivered swiftly and, on the other, ensuring that long-term The measures that addressed spending – wage, costs are not increased as a result. Balancing the pension, and other social benefit cuts – were easy budget should not come at any cost for society as a to implement but are unsustainable, temporary, and whole – long-term competitiveness and the sometimes harmful. In particular, the decision to consequent public welfare have to remain the reduce contributions to second-pillar pension funds underlying criteria. is a measure that undermines the whole idea of pension reform and addresses today’s problems by Possible sources of sustainable transferring them to the future. Furthermore, income pension and social benefit cuts have a strong, direct negative impact on household consumption. Fiscal consolidation measures that addressed the Universal wage cuts in the public sector are revenue side (tax increases, concession and temporary and do not solve the main problem there exemption eliminations, etc.) were too – inefficiency. A much more agreeable structural straightforward and inefficient. Further increases in reform would address the necessity, relevance, and current taxes or introduction of new ones would appropriateness of the size of many public further depress the sentiment of business, institutions and organizations – there is no doubt consumers, and potential foreign investors. Even that the same amount and quality of public services potentially stabilising real estate taxes should wait can be provided with fewer disappointed for economic recovery and be announced well before their introduction. There are at least two employees. This would cause a temporary increase in unemployment (as the workforce would have to healthy alternative sources of budget revenues – a drift from the public to the private sector) but be more efficient management of state-owned beneficial in the long term. enterprises (SOEs) and a smaller shadow economy. SOEs were valued at EUR 5.2 billion, but Lithuania is among the leaders in Europe in such in 2009 their contribution to the state budget in the ratios as the number of hospital beds per capita, form of dividends was only a little more than school teachers per capita (or has lowest number of EUR 10 million, about 0.05% of GDP. By pupils per teacher), and policemen per capita, comparison, dividends of Estonian SOEs amount to 3 (4)
  • The Lithuanian Economy Economic Research Department, Swedbank Nr 04 • 30 September 2010 which indicates further possibilities for optimising the economic growth periods. This would enable a spending in these sectors. small country to build up a cushion against future turbulences in international markets, on which Another area with an obviously wasteful approach Lithuania greatly depends. Fiscal austerity is public procurement – recent scandals in some measures enacted now must be seen as first steps SOEs and public institutions show that there is on the path towards long-term competitiveness and much room for savings there. prosperity, not just temporary measures to calm the There are many paths towards welfare and markets, convince the European Commission, and prosperity and larger government spending is not allow adoption of the euro. the only one. The main structural reform that must take place in Lithuania is a mental one – the social and political elite must understand that consistent Nerijus Maciulis budget deficits are unsustainable (not once since Ieva Vysniauskaite 1995 has Lithuania had a budget surplus). A prudent step towards sustainable public finances would be setting a long term target not of 3% budget deficit, but some surplus – at least during Swedbank Economic Research Department Swedbank’s monthly newsletter The Lithuanian Economy is published as a service to our SE-105 34 Stockholm customers. We believe that we have used reliable sources and methods in the preparation Phone +46-8-5859 1028 of the analyses reported in this publication. However, we cannot guarantee the accuracy or ek.sekr@swedbank.com completeness of the report and cannot be held responsible for any error or omission in the www.swedbank.com underlying material or its use. Readers are encouraged to base any (investment) decisions on other material as well. Neither Swedbank nor its employees may be held responsible for Legally responsible publisher losses or damages, direct or indirect, owing to any errors or omissions in Swedbank’s Cecilia Hermansson, +46-8-5859 7720. monthly newsletter The Lithuanian Economy. Nerijus Mačiulis, +370 5 2582237. Lina Vrubliauskienė, +370 5 268 4275. Ieva Vyšniauskaitė, +370 5 268 4156. 4 (4)