Economic health: emergency rescue to be followed by well balanced rehabilitation
The implications of the pandemic in Lithuania have so far been less severe than in most other countries thanks to the relatively low rate of COVID-19 spread, comparatively smaller economic downturns in Lithuania’s main trade partners, advantageous structure of the country’s industry, swift recovery in consumption and the stimulus measures that had been put in place. This has opened up the possibility to upgrade the economic projections for this year and shift the focus from the urgent economic rescue mission to the targeted and measured management of public finances as well as preparations for implementing the new EU package.
“The latest data confirms that the key economic sectors – industry, trade and exports – have already, or almost, reached the pre-pandemic levels, and a large part of the economy has bounced back on track. We can and must use this fragile relief to make sure that the allocation of government funds and the EU support package for mitigating the fallout from the pandemic goes hand in hand with targeted planning of long-term investment intended for the economic transformation and resolution of persistent problems,” said Vitas Vasiliauskas, Chairman of the Board of the Bank of Lithuania.
According to him, this must all be done within the framework of a clear-cut strategy on how to contain the rapidly growing public debt.
The better-than-expected economic performance during the pandemic were determined by, inter alia, comparatively milder economic downturns in Lithuania’s main trade partners, the manufacturing sector that continued unrestricted operations due to the more limited spread of the virus, relatively minor repercussions on the labour market, the rapid recovery of household consumption as well as lower dependence on the tourism sector. The country’s economy has also been supported by additional public finance, monetary policy and regulatory measures.
Both the previously announced GDP figures and the latest economic indicators give ground for an upward revision of this year’s projections. According to Bank of Lithuania economists, Lithuania’s GDP in 2020 is set to contract by 2% under the baseline scenario. Given the upgraded forecasts for 2020, the bounce-back envisaged in 2021 will also be more moderate, with GDP increasing by 3.1% in the year to come.
Nonetheless, the Bank of Lithuania has also made calculations under a severe scenario in view of the persistent high uncertainty over the economic fallout from the pandemic. Under this scenario, GDP should decline by 2.4% in 2020 and remain unchanged next year. Meanwhile, the mild scenario would see the country’s GDP contracting by 0.2% in 2020, before increasing by 5% in 2021.
Despite its relatively robust state, the labour market has not escaped the negative impact of the pandemic either. Even though the employment rates resumed growth in June, they still remain substantially below the levels observed in 2019. Wage growth continued its upward trend, albeit at a much slower pace. The high unemployment levels resulted from both economic development and the decisions adopted by the government: even though the registered unemployment rate stabilised already in June, the rollout of jobseeker’s allowances put it back on a growth path. Under the baseline scenario, the unemployment rate is expected to reach 8.8% this year, while the average wage should increase by 6.8%.
The subdued inflation rates should remain so in the near future: according to the baseline scenario, average annual inflation is expected to be 1% in 2020 and to reach 1.2% in 2021, largely driven by the continued, albeit more moderate, growth in prices of services.
Given the better-than-expected economic performance amid the pandemic shock, it becomes crucial to ensure sound management of the budget deficit and public debt. This year, the budget deficit will reach one of the highest rates since the beginning of the data series, whereas the debt ratio is set to soar by 10 percentage points and come close to 50% of GDP, reaching the highest level in Lithuania’s history.
As a result, it is highly important to ensure rational, prudent, targeted and measured use of public money for both short-term economic stimulus and longer-term investment, such as Lithuania’s Plan for the DNA of the Future Economy, with a total envelope of €6.3 billion.
With “firefighting” efforts coming to an end, long-term investment should be primarily based on the quality of investment projects instead of speed. Even though lump-sum payments spent on consumption may be necessary at critical times, such measures cannot evolve into a long‑term solution, as they do not help address persistent problems, such as the slow growth in labour productivity, demographic ageing or regional exclusion. Human capital, i.e. educated people with adequate skills, is a crucial element in transforming the economy, which will yield the best returns in the long term. However, the amount of financing provided for this particular pillar in the Plan for the DNA of the Future Economy is actually the smallest, comprising €757 million, which is nearly three times less than €2 billion earmarked for infrastructure investment. The foreseen investment in digital economy will amount to €1.4 billion, in innovation – nearly €1 billion, while in anti-climate change measures and energy – €927 million.
Equally important is the need to make proper use of the forthcoming EU support funds. The Recovery and Resilience Facility earmarks €2.4 billion in grants for Lithuania, which would also be able to borrow up to €3 billion if necessary. Lithuania must not miss this opportunity and should thus develop a far-reaching reform plan as well as ensure the channelling of funds to productive areas in order to build a sustainable and competitive national economy.