April 23, 2007
Nordea Baltic Rim Outlook:
Record-strong growth spills over into overheating and devaluation fears
Estonia, Latvia, Lithuania, Poland and Russia are among the fastest growing economies in the world. The Baltic economies are currently expanding even faster than during the previous boom year 1997. The expansion has been strong to the point of overheating and devaluation fears in Latvia. While we remain positive on the authorities' ability to control the situation, the risk is that the current very fast expansion will end in a hard landing. The real estate market is one important factor behind the expansion. Russia and Poland are seen to continue growing at a fast pace, with the former going into the election cycle.
Despite the strong advances in recent years, the potential is far from exhausted yet. "We believe that the Baltic countries and Poland will continue growing faster than the EU on average in the coming years as well. Above-average growth in the Baltic Rim is also supported by the bright prospects in Russia, which has benefited a lot from the booming oil and gas prices," says Senior Analyst Mika Erkkilä, Nordea's economist responsible for the Baltic countries and Russia.
Russia is now slowly but steadily regaining her status as a major power that has a say in the world affairs. In the run up to the election cycle, Russia has benefited from the high world market prices for its main exports, oil and other raw materials. The purchasing power of households, whose savings were largely wiped out after the rouble crisis in 1998, is increasing fast again. "The economy is more resilient to a possible oil price decline now," says Mika Erkkilä. "However, this is not to say that there aren't risks, either. There are concerns around the political development and the investment climate."
Overheating risks in Latvia have increased as economic imbalances have aggravated. Double-digit growth has come at the expense of stubbornly high inflation, a very high current account deficit and growing indebtedness. Inflation has increased to the extent that the country has seen its EMU plans delayed. "There have been fears about a possible devaluation. Despite the risks, we think that ultimately the authorities will manage to steer the economy into calmer waters and avoid a hard landing of the Latvian economy," Mika Erkkilä points out.
Estonia will probably escape a hard landing, as the economy is heading towards a cyclical slowdown. Credit growth has probably peaked and the real estate market is also likely to cool down. At the moment it seems that the risks of a hard landing have diminished. Although Lithuania has also experienced historically high growth rates, the country has not experienced the same lending and real estate boom, and indebtedness is also lower.
The Polish economy is also performing strongly, although hardly as fast as in 2006. High growth and a tighter labour market should mean gradually higher interest rates, as the central bank is expected to act in order to avoid inflation accelerating too much.
Mika Erkkilä, Senior Analyst, +358 50 56 88 294
Atte Palomäki, Chief Press Officer, Finland, +358 9 165 42325, +358 40 547 6390
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