IMF improves the growth forecast for Lithuania’s economy, but also sees risks on the horizon
The situation of Lithuania’s economy is currently favourable for a strong growth that will accelerate in the second half of this year, as stated by the International Monetary Fund (IMF), which is projecting the growth of 4.4% for the country’s economy this year.
Although risks to Lithuania’s economy are balanced in the short-term, faster economic growth may pose a threat of imbalances developing in the medium term. Therefore, it is particularly important to use state support measures in a targeted manner and timely utilise the fiscal and macroprudential policy tools to ensure sustainable development of the economy and the financial system.
The conclusions of the IMF Mission that worked in Lithuania remotely from 28 May to 14 June 2021 underline that the economic downturn in Lithuania last year, which comprised 0.8%, was among the smallest in the euro area, where economies contracted by 6.7% on average. Already in the first quarter of this year, Lithuania’s economy returned to growth (1.2%), despite still being subject to quarantine restrictions.
Taking into consideration the better than expected economic developments in 2020, the IMF improved Lithuania's economic growth forecast for 2021: it is currently projected that the country’s economy will grow by 4.4% instead of 3.2%, as projected in April. The growth will be supported by a strong financial standing of the private sector, declining uncertainty and the rise in domestic and external demand. It is expected that the export, which is projected to increase by 4.6% this year, will also strongly contribute to the economic growth. The unemployment rate should comprise 6.7% this year (the previous projection was 8.4%). In the medium term, a targeted and efficient allocation of the European Union support, including the Recovery and Resilience Facility, would boost economic productivity and create conditions for a further sustainable wage growth.
“While rejoicing over the fast economic recovery, we should still closely monitor the risks that may be awaiting us beyond the horizon. The objective of decision-makers should be to ensure the growth that is as sustainable as possible instead of as fast as possible. The Bank of Lithuania is ready to employ its macroprudential toolkit for ensuring a balanced development of the economy and the financial system,” said Gediminas Šimkus, Chairman of the Board of the Bank of Lithuania.
“With the mass vaccination gaining momentum and the restrictions on economic activities being gradually lifted, the economic growth is accelerating. In this context, we have to both reassess the fiscal policy trajectory and ensure that support measures are applied in a targeted way. It should be noted that the IMF experts positively evaluated the Government reform agenda, which focuses on addressing the country’s structural problems, as well as the tax system review performed by the Ministry of Finance to ensure a fairer tax environment that is more favourable to growth,” said Gintarė Skaistė, Minister of Finance.
IMF representatives also positively evaluated Lithuania’s banking sector, which is well-capitalised and profitable, as well as the Bank of Lithuania’s efforts in the improvement of the FinTech sector’s regulation and its focus on anti-money laundering issues.
The IMF considers that inflation in Lithuania may reach 3.2% this year (the previous projection was 1.5%), whereas next year it should decline to 2.8% Nevertheless, the IMF warns that the economic growth in the medium term may be faster than projected, which would result in higher inflation. If such a scenario materialised, a pro-active counter-cyclical economic policy response would be warranted.
“As the recovery is accelerating in Lithuania, the pandemic crisis is expected to have a minimal long-term negative impact on the potential of the economy. Therefore, policy support should become increasingly targeted and primarily focused to individual, viable firms in sectors hardest hit by the pandemic, which are still subject to restrictions. In this connection, as the recovery takes hold, broad support measures aimed at whole sectors will not be necessary and should be avoided,” said Borja Gracia, the IMF Mission Chief for Lithuania.
Governor of the Bank of Lithuania assured at the meeting with the IMF Mission representatives that in case the signs of overheating are observed at the real estate sector, macroprudential policy measures will be employed to stabilise the situation.
“We are currently observing a rise in housing market activity and accelerating housing price growth. The sector’s activity is boosted by the lifting of restrictions, the growth of household savings and the improvement in expectations, the trend that is also evident in other advanced economies. By now, this sector’s growth has been in line with fundamental factors. We will closely monitor further developments in the market and, if any signs of overheating are observed, we will respond with targeted measures. Bank lending standards are not loosening for now, however, housing loan portfolios of banks are becoming increasingly larger and could grow further with the economic recovery. If these trends prevail, we will consider the application of the systemic risk buffer for housing loan portfolios, which would increase bank capital reserves for covering the housing market–related systemic risk,” underlined Gediminas Šimkus.
During the mission, the IMF experts collected information on Lithuania’s overall macroeconomic situation, economic development and labour market trends, situation in the financial sector as well as fiscal policy and devoted much attention to the impact of the COVID-19 pandemic and the implementation of measures in response to the crisis.
Remote meetings with Members of the Board of the Bank of Lithuania, experts of the Financial Market Supervision Service and the Economics and Financial Stability Service of the Bank of Lithuania, representatives of the Ministry of Finance, other state institutions and the private sector were held during the mission.
Lithuania has been a member of the IMF since 1992. Currently, 190 countries are members of the IMF. Annual country consultations with the IMF are organised in accordance with Article IV of the IMF’s Articles of Agreement, which obligates the IMF member states to pursue the economic and financial policy that ensures domestic and global financial and economic stability.