Estonia swims against the economic tide

By bne IntelliNews August 11, 2011

Guy Norton in Zagreb -

Amid the gloom and doom that currently clouds the outlook for the euro, Estonia stands out as a beacon of hope. While older, supposedly wiser members of the Eurozone are currently fighting for their financial lives as they try to avoid drowning in debt, the new kid on the euro bloc is confidently swimming against the economic tide.

Everybody it seems, whether it's US ratings agency Standard & Poor's, The Washington Post or Russian Prime Minister Vladimir Putin, has been lining up to praise the plucky performance of the economic leader of the Baltic pack.

Yes that's right, even Putin had a kind word to say about Estonia, pointing out the country was one of an exclusive troika of Eurozone members - Finland and Luxembourg being the other two - that had pursued prudent policies to ensure sustainable macroeconomic development. High praise indeed from a country that is normally all to happy to stick the knife into Estonia - viz Russian Foreign Minister Sergei Lavrov's latest allegation that the authorities in Tallinn have again indulged in the glorification of Nazism by hosting an exhibition devoted to Alfred Rosenberg, Hitler's ideologue in chief, at the Estonian History Museum.

Rated highly

Putin's rare plaudit for Estonia followed a double-notch upgrade by S&P, which just days earlier had taken the momentous step of stripping the US of it's prized triple-A rating. Granted Estonia's creditworthiness, which was raised from 'AA-' from 'A', still lags behind the US 'AA+' rating, but at a time when some of its Eurozone's peers are seeing their ratings slashed to so-called junk status, it's testament to Estonia's pragmatic economic approach that it is deemed worthy of an upgrade when others are being downgraded.

Front and centre in S&P's positive analysis is the fact that the Estonian government, led by Andrus Ansip, showed the necessary political bravery when the country sank into recession in 2008-09 and GDP shrank by 20%. Eschewing easy options such as a devaluation of the euro-pegged Estonian kroon, Ansip's government instead slashed public spending and raised taxes as part of an internal devaluation that laid the grounds for a strong economic recovery and its adoption of the euro at the start of this yet.

As a result, Estonia, currently sits atop the GDP growth league table for the Eurozone, with the country reporting on August 10 an increase of 8.4% on year in the second quarter. "The Estonian economy continues to growth at an impressive rate... [and] in general we expect to see a continuation of the high growth trend as exports remain very strong," says Violeta Klyviene, senior Baltic economist for Danske Bank. "There is a certain upside risk to our forecasts and the GDP growth outcome might be significantly higher than 6% on average this year."

S&P is also looking positively into the future, saying that: "Should Estonia continue to post sustained growth without generating internal, primarily fiscal, or external imbalances, we could consider raising the rating over the next several years." This holds out the possibility that the country could soon rank alongside economic superpowers such as the US in the not-too-distant future. Not too shabby for a nation of 1.3m people whose main economic claim to fame little more than 20 years ago was as a leading manufacturer of ladies underwear in the former Soviet Union.

Although S&P cautioned that any excess reliance on external debt or an unexpected widening of the country's fiscal gap would lead to a ratings cut, that seems an unlikely scenario given past performance and future economic policy. Estonia finished 2010 with the EU's only budget surplus and the bloc's lowest public debt - at just 6% of GDP. Indeed the Estonian state has no outstanding international bonds, with the credit-default swap (CDS) market the only avenue through which investors can speculate on Estonia's creditworthiness. On the back of the S&P upgrade, Estonian five-year CDS contracts were trading at 115 basis points, placing it among the top-10 safest EU economies. To put that in context, just two years ago it was rated the third riskiest.

Furthermore, Ansip's government, which was reelected in March, is now looking to reduce economic risks even further by running balanced budgets and accumulating gold and foreign-currency reserves over the course of its four-year term in office.

As a result, the country can now look forward with confidence given that public investment in the country in the coming years will be supported by aid from the EU, while increasing economic optimism at home should boost private consumption, which Danske's Klyviene warns still remains weak.

No wonder then that The Washington Post in a rare Estonia-focused editorial was singing the country's praises and contrasting Ansip's performance with that of the current US administration. "Leaders willing to take tough measures to put national finances in order are more likely to be rewarded than punished by their constituents. As for those who duck the tough decisions - well, let's just say that Congress' public approval rating is nowhere near Ansip's."

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