Dalintis:

Lithuania’s economic development and outlook

22 March 2022

In February, when the Russian military invasion of Ukraine began, the world economy, still coping with the aftermath of the pandemic, was dealt another blow. The ongoing war in Europe and the increasing retaliatory actions of states are affecting the global economy through a variety of channels, namely, international trade, spikes in the prices of energy and other commodities, the financial sector, currency and capital markets, investor and consumer confidence. The continuing high uncertainty and volatility of these and other factors makes it extremely difficult to assess the development of the economies of Lithuania and other countries over the next few years. For this reason, the latest Lithuanian Economic Review presents three possible Lithuanian economic development paths: the conventional scenario and the shock and larger shock sensitivity analyses. The conventional scenario is based on the data and information available before 1 March, while the sensitivity analyses are built upon hypothetical assumptions based on more recent data and information. Also, in all cases it is assumed that military action will be limited to the Ukrainian territory.

Following the outbreak of Russian military action in Ukraine, Western democracies condemn it and impose economic sanctions against the Russian and Belarusian regimes. On 25 February, the European Commission adopted a wide-ranging package of sanctions covering not only individuals, but also various economic sectors such as finance, energy, transport and technology, as well as a visa issuance policy for citizens of the Russian Federation. In addition, the US and other countries around the world have also imposed sanctions on the Russian Federation for its military actions on the Ukrainian territory. As hostilities continue, on 2 March, the EU and other countries agreed on additional sanctions against the Russian Federation to isolate it and force it to end its military invasion of Ukraine. For its part, on 8 March, the US banned imports of Russian oil, liquefied natural gas and coal in a further extension of sanctions against the Russian Federation, thus further isolating the country’s economy. On 9 March, the EU has also announced an additional package of sanctions against Belarus, which is complicit in the unprovoked and unmotivated military aggression against Ukraine. In addition to official sanctions by foreign countries, many multinational companies have put on hold or exited business activities in the Russian Federation, thus further reinforcing economic isolation. The international credit rating agency Fitch has downgraded the rating of the Russian Federation to C, indicating that the country is unable to meet its financial obligations. The impact of these sanctions is expected to affect both Lithuanian and EU economies through three main channels – foreign trade, raw material supply and prices, and business and household sentiment.

The larger shock sensitivity analysis includes a more hawkish assessment of economic developments, based on weaker assumptions about the international economic situation, the domestic economy and tougher sanctions. Under this sensitivity analysis, Lithuanian businesses practically stop exporting to Russia, Belarus and Ukraine, while demand from EU countries slows down even more (based on the ECB’s severe scenario). Also, for around a fifth of imports of wood and metal raw materials, firms are unable to find economically viable substitutes, and household and business confidence falls twice as much as in the shock sensitivity analysis. It was also assumed that the prices of the raw materials assessed would equal to the highest daily level observed between 28 February and 17 March. This could be the case, for example, if Western countries were to refuse oil and gas imports from Russia and fail to agree on a significant increase in alternative supply. Under these assumptions, in 2022, Lithuania’s GDP would decline by 1.2%, and average annual inflation would rise to 11.1%.

	March 2022 forecasta			December 2021 forecast
	2021	2022b	2023b	2021b	2022b	2023b
Price and cost developments (annual percentage change)
Average annual HICP inflation	4.6	10.5	2.7	4.5	5.1	–
Gross Domestic Product deflatorc	6.6	8.4	3.3	4.5	3.4	–
Wages	10.5	10.7	7.7	10.0	8.2	–
Import deflatorc	12.0	7.5	1.9	8.5	5.4	–
Export deflatorc	5.9	6.3	3.0	4.2	4.9	–
Economic activity (constant prices; annual percentage change)
Gross domestic productc	4.8	2.7	2.7	5.1	3.6	–
Private consumption expenditurec	7.2	4.7	4.9	6.1	5.8	–
General government consumption expenditurec	0.5	0.0	0.0	0.3	0.0	–
Gross fixed capital formationc	7.0	5.6	3.6	8.7	6.3	–
Exports of goods and servicesc	14.1	5.2	1.9	12.6	4.8	–
Imports of goods and servicesc	17.8	5.3	3.6	16.2	6.6	–
Labour market
Unemployment rate (annual average as a percentage of labour force)	7.1	7.1	7.3	7.1	6.7	–
Employment (annual percentage change)d	1.2	1.0	–0.8	0.7	0.2	–
External sector (percentage of GDP)
Balance of goods and services	3.8	3.0	2.5	5.1	3.6	–
Current account balance	1.6	0.6	0.1	2.3	1.3	–
Current and capital account balance	3.0	3.3	2.8	4.2	4.1	–

	Conventional scenario	Shock sensitivity analysis	Larger shock sensitivity analysis
Decline in exports to RU, BY and UA	No additional expert assessment applied	Export volumes fall by 2/3	No exports to these countries
Declining demand in EU countries	Consistent with the evolution of the ECB baseline scenario	Consistent with the impact of the ECB’s adverse scenario	Consistent with the impact of the ECB’s severe scenario
Shortages and rising costs of imported raw materials	No additional expert assessment applied	LT companies are unable to find substitutes for 10% of raw materials imported mainly from RU, BY and UA. Prices of these raw materials increase by a third	LT companies are unable to find substitutes for 20% of raw materials imported mainly from RU, BY and UA. Prices of these raw materials increase by a third
Rising energy and food prices	Based on market prices on 28 February	Based on market prices on 17 March	Prices correspond to the highest daily level reached between 28 February and 17 March
Impact of increased uncertainty about the future	No additional expert assessment applied	Confidence deteriorates to a similar extent as in previous crises	Double the deterioration in confidence than in shock scenario

	2022	2023
Gross domestic product
Conventional scenario	2.7	2.7
Shock sensitivity analysis	0.4	2.1
Larger shock sensitivity analysis	–1.2	1.5
Average annual HICP inflation
Conventional scenario	10.5	2.7
Shock sensitivity analysis	10.5	2.7
Larger shock sensitivity analysis	11.1	3.0

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1.International environment

In the first half of last autumn, as vaccination rates continued to accelerate and COVID-19 containment measures eased, the global economy gained momentum and moved towards the pre-pandemic levels. The emergence of the new Omicron variant of COVID-19 in the second half of the autumn was quickly recognised as a “virus of concern” by the World Health Organisation and has once again forced many countries around the world to reintroduce containment measures to control the rapidly spreading strain of the virus (see Chart 1). The spread of this new variant of COVID-19 had an impact on the global economic recovery and future forecasts. The spreading Omicron variant impacted the economy through financial market fluctuations and volatility, and through longer-than-expected international supply bottlenecks that hampered the economic recovery. These bottlenecks led to energy supply disruptions that contributed to the autumn surge in inflation, which rose faster than expected in many parts of the world, with a significant rise in energy prices at the end of 2021 further accelerating inflation.

Despite vaccination and COVID-19 restrictions, a new variant of COVID-19 has led to a sharp increase in new cases.

Dalintis:

Inflation is set to be higher this year than last year but is expected to fall in 2023. According to the IMF forecasts, inflation will reach 3.9% in developed countries and 5.9% in emerging market economies in 2022, before starting to fall in 2023. According to the World Bank, in the medium term, inflation is projected to return to the pre-pandemic levels as the pandemic recedes, supply chain disruptions fade, monetary tightening gradually takes hold, and the balance between consumption of goods and services is restored. According to the IMF, the rise in energy prices at the end of 2021 is expected to begin to ease in 2022–23, pushing down consumer prices. Global food prices are projected to rise in a similar way, rising by 4.5% in 2022 and falling in 2023 (see Chart 2).

Sharp increases in energy prices contributed to the rise in inflation.

Dalintis:

The US economy grew more slowly than forecasted in 2021, and the forecasts for 2022 have been revised downwards again. The GDP in the US increased by 5.6% in 2021, but the forecast for 2022 is down, compared to the IMF’s forecasts for October, which were revised downwards by as much as 1.2 percentage points. In the US labour market, there was a decline in the unemployment rate in 2021, but it remains above the pre-pandemic levels, and the MMW has risen. If unemployment rates remain above the pre-pandemic levels and the unemployed hesitate to return to the labour market, opting instead for the increased unemployment benefits due to the COVID-19 pandemic, the IMF argues that this will further boost the prices of goods and services. As a result of this labour market situation, the US Federal Reserve stated in December that it would reduce its net asset purchases at a much faster pace, signalling a future rise in the federal funds rate of 0.75–1.00 percentage points by the end of 2022, i.e. 50 basis points more than in the previous guidelines. Finally, a less accommodative monetary policy programme in the US will lead to a tightening of global financial conditions, putting pressure on emerging market and frontier currencies. Borrowing will become more expensive globally due to higher interest rates, especially for countries with large national debt denominated in foreign currency.

The global spread of the new variant of COVID-19 severely affected not only developed countries, but also emerging Asian countries such as China. In addition to the negative impact of the new diseases, the Chinese economy was affected by the stagnation of the real estate market. China’s economic growth in the fourth quarter of 2021 was the slowest in recent years due to the following adverse events: the downturn in the RE market, the severe impact on the economic recovery of the strict containment measures due to the zero-COVID policy and the disruption of energy supply that has affected the industrial plans. In addition, public sector investment has been declining faster than expected and has had a negative impact on the already slowing RE market investment. The latest IMF projections for 2022 China’s real GDP growth are revised down by 0.8 percentage point compared to the October projections. The latest January baseline projection scenario included a downturn in RE demand in 2022, reflecting a strict RE risk management policy to manage the risk factors related to property developers. The risk remains as the slowdown in the RE market intensifies and the financial position is more severely affected. The risk factor may affect banks and other lenders, thereby affecting the wider regional and global economy.

The euro area was one of the hardest hit by the new Omicron variant of COVID-19 in the fourth quarter of 2021, significantly slowing down the economic recovery. In 2021, it was 0.4 percentage point lower than expected, and the projections for 2022 have been revised downwards by 0.7 percentage point compared to the October projections (see Table 1). According to the IMF, the euro area economy grew by 5.2% in 2021, and is forecast to grow by 3.9% next year and 2.5% in 2023. As the economy continues to grow and the containment measures to prevent the spread of COVID-19 are lifted, disruptions to supply and production chains and higher energy prices are contributing to rising inflation in the euro area. However, these factors behind the current increase in inflation are expected to normalise over time. According to the IMF projections, inflation is expected to return to 2.0% and to around 1.8% in 2023 and 2024.

The global economic outlook has deteriorated according to the October projections.

Geography	Historical data	Latest data	Latest projections		Change in the October and year-end projections
	2020	2021	2022	2023	2022	2023
Whole world	-3.1	5.9	4.4	3.8	-0.5	0.2
Developed economies	-4.5	5.0	3.9	2.6	-0.6	0.4
US	-3.4	5.6	4.0	2.6	-1.2	0.4
Euro area	-6.4	5.2	3.9	2.5	-0.4	0.5
Germany	-4.6	-2.7	3.8	2.5	-0.8	0.9
France	-8.0	6.7	3.5	1.8	-0.4	0.0
Italy	-8.9	6.2	3.8	2.2	-0.4	0.6
Spain	-10.8	4.9	5.8	3.8	-0.6	1.2
Japan	-4.5	1.6	3.3	1.8	0.1	0.4
UK	-9.4	7.2	4.7	2.3	-0.3	0.4
Canada	-5.2	4.7	4.1	2.8	-0.8	0.2
Other developed economies	-1.9	4.7	3.6	2.9	-0.1	0.0
Emerging markets and developing economies	-2.0	6.5	4.8	4.7	-0.3	0.1
Emerging markets and developing economies in Asia	-0.9	7.2	5.9	5.8	-0.4	0.1
China	2.3	8.1	4.8	5.2	-0.8	-0.1
India	-7.3	9.0	9.0	7.1	0.5	0.5
Emerging markets and developing economies in Europe	-1.8	6.5	3.5	2.9	-0.1	0.0
Russia	-2.7	4.5	2.8	2.1	-0.1	0.1
Brazil	-3.9	4.7	0.3	1.6	-1.2	-0.4
Mexico	-8.2	5.3	2.8	-2.7	-1.2	0.5
Middle East and Central Asia	-2.8	4.2	4.3	3.6	0.2	-0.2

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2.Monetary policy of the Eurosystem

Over the past six months, rising inflation and the economic recovery have led to the scaling back of accommodative monetary policy. It has been decided to gradually reduce net asset purchases and to raise key interest rates in the future, once they have been completed and once there is enough confidence of achieving the 2% inflation target in the medium term. However, the right is reserved to react flexibly and to adjust all available measures as necessary.

In the second half of 2021, as the economic recovery continued, the Governing Council of the ECB gradually started to reduce the pace of asset purchases. With financing conditions still favourable and economic growth continuing to recover, the Governing Council in its October monetary policy meeting confirmed the decisions taken in September, including a lower volume of net asset purchases than in the first months of 2021. In December, the ECB’s economic growth forecasts for 2022 were downgraded following the countries’ renewed pandemic-related restrictions on economic activity. Although inflation has picked up and inflation forecasts have been revised upwards, the projected rate of 1.8% in 2023 and 2024 was still below 2%. The Governing Council has therefore decided to continue the slow reduction of net asset purchases. Net asset purchases under the PEPP were foreseen to gradually decrease during the first quarter of 2022, to be completed in March, and to temporarily increase net asset purchases under the APP from April onwards, in order to avoid that a sharp reduction in the total volume of purchases would worsen financing conditions. In addition, the reinvestment period for PEPP purchases has been extended until the end of 2024.

In early 2022, important decisions were taken to reduce the level of accommodative monetary policy. No new decisions were taken in February 2022, but ECB President Christine Lagarde highlighted the risk of higher inflation, especially in the short term. At the March meeting, it was decided to accelerate the reduction of net asset purchases under the APP, taking into account increased inflation forecasts and higher inflation risks. It was also underlined that any adjustments in the key ECB interest rates will be gradual and take place only some time after the Governing Council has completed net asset purchases. In the face of increased uncertainty, it was decided that the planned purchase process, including all available instruments, could be adjusted flexibly in line with the inflation outlook.

Rising inflation and high uncertainty about its future path have led to higher interest rate expectations (see Chart 3). In the second half of 2021, financial markets started pricing so that the ECB could start raising key interest rates in late 2022, although the ECB’s forecasts did not point to the inflation target being met. However, with inflation exceeding expectations in December 2021 and January 2022 (mainly due to energy prices), the ECB’s Governing Council has put more emphasis on high uncertainty and risks of higher inflation. The increase in inflation and such ECB’s assessment reinforced market participants’ expectations of an earlier interest rate hike.

The ECB interest rates remain at very low levels.

Dalintis:

Financing conditions have remained favourable.

Dalintis:

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3.Real sector

Despite an unusually high number of adverse risk factors, Lithuania’s economic growth momentum continued to be strong in the second half of 2021. The economy grew at an annual rate of 4.8% in the third quarter of last year and 4.4% over the fourth quarter. These economic developments caused Lithuania’s GDP to be 4.8% higher in 2021 than a year earlier. Manufacturing and production of petroleum products and the services sector, which recovered from the pandemic restrictions, were the main contributors to economic growth, while the financial services and real estate sectors also rebounded from the pandemic contraction, but growth in the agriculture sector slowed considerably and the construction sector contracted (see Chart 5). However, protracted supply chain disruptions in the second half of last year, labour shortages and increased inflationary pressures, as well as challenges related to geopolitical conflicts, which dampened Lithuania’s economic expansion, led to lower-than-expected growth in the second half of last year. The negative impact of supply chain disruptions is expected to diminish in the second half of 2022, but labour shortages will remain an issue and the main negative impact on economic development will come from the increase in energy prices and commodity shortages caused by the economic sanctions against Russia and Belarus, as well as the likelihood of continued trade restrictions with China. Based on currently available data, GDP growth is projected to slow to 2.7% this year, before rising at the same pace in 2023. The slowdown in growth in 2022 will be mainly due to the slower expansion of exports of goods and services as a result of the sanctions imposed due to the war in Ukraine, the prolonged disruption of supply chains in the first half of the year, the slower growth of real consumption due to the increase in energy prices, and the labour shortage. There is also considerable uncertainty about the negative impact of geopolitical factors on commodity prices and trade channels – tougher economic sanctions due to the war in Ukraine, restrictions on energy commodity supplies could lead to slower economic growth than currently expected.

In 2021, GDP growth in Lithuania was mainly driven by the expansion of industry, real estate and services, while construction and agriculture declined.

Dalintis:

Domestic demand, in particular household consumption, contributed significantly to the strong economic growth, with growth outpacing real wage growth in the last quarter of last year (see Chart 6). Private consumption was mainly influenced by a rapid increase in household disposable income, as well as a significant increase in consumption of services in Lithuania and globally due to the lifting of pandemic restrictions. The main contributors to such evolution of household disposable income are the strong wage growth (average annual gross wages grew by 9.9% in the third quarter of 2021) and the decisions taken by the authorities, most notably changes to pensions, the minimum wage and the general government wage, and changes to child benefits. However, real disposable income growth this year will be undermined by a double-digit acceleration in price increases, which is likely to dampen growth in consumption, especially of non-essentials.

In the fourth quarter of last year, household consumption grew faster than real income.

Dalintis:

Government decisions and pension indexation will continue to make a significant contribution to further growth in household disposable income this year. In 2022, some of the most important discretionary decisions of the general government are the increase in the minimum wage, the tax-free income rate, teachers’ and government employees’ salaries, which will add € 577 million to personal income and EUR 760 million to pension and social benefits expenditure. The available data suggest that this year, both household disposable income and consumer price inflation are expected to outpace the last year’s growth, resulting in a modest increase in real disposable income, but further growth in private consumption is expected due to the post-pandemic decline in the saving rate. As a result of these factors, the expansion in household consumption will be lower than observed last year, but still above the pre-pandemic growth rate.

Growth was mainly driven by domestic demand, with consumer spending rising rapidly and investment growth slowing in the second half of 2021.

Dalintis:

The other driver of domestic demand, investment, rebounded strongly in 2021 after a significant drop in 2020, but growth slowed in the second half of the year (see Chart 7). The growth in the first half of the year was driven by a very strong increase in investment in machinery and transport equipment, which slowed down in the second half of the year, while investment in the construction sector contracted last year (see Chart 5). This latter development is mainly due to a significant drop in civil engineering construction in the second half of 2021, most likely as a result of a sharp slowdown in the implementation of government investment projects (mainly due to the increase in investment project cost estimates). Non-residential construction showed signs of recovery in 2021 after a sharp drop in 2020. After a year of growth, residential construction started to slow down in the middle of last year and shrank faster than during the pandemic in the fourth quarter of last year. This development in the construction sector as a whole is affected by shortages of workers, production facilities and materials. In business surveys, the share of construction firms citing labour shortages as a limiting factor is now at its highest since the global financial crisis, while the share of construction firms experiencing shortages of production facilities or materials is at its highest since the data began to be published.

However, increasing risks of less favourable further developments in Lithuania’s main trading partners, as well as sanctions against Russia and Belarus, are expected to dampen the growth of private sector investment this year. However, the projected strong recovery in government investment this year, as well as the implementation of the measures in Lithuania’s Recovery and Resilience Plan, are likely to lead to positive dynamics in the investment balance.

In 2021, production records are observed for all industries.

Dalintis:

Even in the face of challenges in international markets, last year saw a very strong recovery in foreign trade, with Lithuanian manufacturing setting records for sales volume (see Chart 8). Meanwhile, the transport services sector faced development challenges. Last year, trade restrictions with Belarus, the consequences of the conflict with China, as well as continued disruptions in supply chains and tensions in raw materials markets, did not slow down strong export growth and the expansion of manufacturing industries. Recently, manufacturing has improved its sales records in chemicals, food, petroleum refining, capital goods, furniture and wood, plastics and other non-metallic mineral products almost every month. Machinery and equipment manufacturing grew rapidly. Although there were no clear signs of a slowdown in the sector’s activity prior to the hostilities in Ukraine, such a development should not be completely ruled out due to the extremely high number of adverse risk factors, such as the tightening of financial and trade sanctions against Russia, which could exacerbate the current disruption of supply chains, the shortage of labour, and the high utilisation of existing production capacity.

In the transport sector, after the good performance in the first half of last year, the second half of the year saw a return to a lower level of freight turnover than before the pandemic at the end of 2019. The main contributing factor was the decline in both rail and road freight volumes. With the challenges facing both of these transport sectors (rail transport with the sanctions imposed on Belarus, road freight transport with the additional requirements of the Mobility Package that entered into force in February this year), their further development could be significantly limited, and the requirements of the Mobility Package could lead to the relocation of these services to territories closer to the main transport flows.

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4.Labour market

The labour market situation is stabilising, with the total number of employed and unemployed returning to the pre-pandemic levels and demand for workers continuing to increase. In the fourth quarter of 2021, the numbers of employed and unemployed were close to those recorded at the end of 2019. Although the number of people employed in the country grew at a relatively fast pace over the past year (0.8% change over the year), employment developments varied across sectors. These disparities are reflected by differences in hiring across economic activities. According to the latest daily frequency data published by Sodra, the number of employees is currently increasing especially in the information and communication, transport and public sectors, while the situation is worst in accommodation and catering, leisure and recreation segments, where the number of employees is still below the average in 2019 (see Chart 9). However, at the beginning of the third quarter of 2021, with the lifting of quarantines and the relaxation of restrictions on the contact-intensive sectors, even in these activities most affected by the pandemic, employment growth accelerated significantly. The largest changes in hiring due to the easing of restrictions were in the contact-intensive accommodation and catering sector, where hiring was above the pre-pandemic level throughout the third quarter of last year, but hiring was again below the average for 2019 by the end of the year. Seasonal fluctuations also contributed to these job developments. As employers increase their rate of job creation, the country is facing a growing shortage of workers.

The number of people employed is increasing and is above the pre-pandemic levels, but the recovery is uneven.

Dalintis:

There is a severe labour shortage in the high value-added sectors, signalling a mismatch between the existing supply of skilled labour and the demand for higher-skilled labour.

Dalintis:

Higher wages are a key weapon in the fierce competition for employees. The exceptionally strong wage growth last year was supported by a favourable labour market situation for employees, which was associated with the falling unemployment rate, increased labour demand and supply of jobs. The competition for professionals by means of raising salaries resulted in double-digit wage growth in the third quarter of last year. The annual growth rate of gross average monthly wages in the country during this period was almost 10%. Moreover, in most economic activities, wages did not lose their upward momentum throughout the pandemic period (see Chart 11). Even in the hard-hit leisure and recreation, catering and accommodation sectors, wages are expected to be around 21% higher in the fourth quarter of 2021 compared to the 2019 average. A technical factor contributing to this strong growth in these sectors is the low base effect resulting from the rapid wage decline in the second quarter of 2020.

In many economic activities, wages are more than a fifth above the average for 2019, and in the national economy, wages are now around 28% above the average for 2019.

Dalintis:

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5.External sector

In the second half of 2021, Lithuania’s export and import volumes continued to grow and the growth rates of imports and exports converged. Based on the National Accounts, real exports of goods and services increased by 7.3% and imports by 7.1% in the second half of 2021, compared to the first half of the year. The return of external demand to its pre-pandemic trend and the increase in investment during the year allowed exports to continue to grow, while the increased geopolitical risks (uncertainty about the future and rising prices encouraged early sourcing of goods and raw materials) and the reduction in corporate inventories during the pandemic had a positive impact on imports. In the second half of 2021, most of the growth in foreign trade was driven by trade in goods (see Chart 12). Growth in trade in services remained sluggish in the second half of the year. With demand in external and domestic markets following an upward trajectory, Lithuania’s exports and imports are expected to rise, yet imports are seen to expand at a faster pace due to the expected stronger demand for commodities and equipment underpinned by the development of production as well as due to the recovery of household consumption. Geopolitical tensions and related risks are the main source of risk to the export outlook, as they may adversely affect Lithuania’s exporting companies that are directly or indirectly linked to China and Belarus. The current situation and the military conflict and global sanctions against Russia have greatly increased the uncertainty of the future. This has significantly reduced the level of projected demand, but in addition to falling demand, there are also risks related to raw materials (metals, timber), a large part of which is imported from Russia and Belarus. Price increases for important raw materials, which are mainly imported from these countries, are not yet clear, but will be inevitable, both because of the fall in market supply and the loss of cheaper markets.

Lithuania’s foreign trade volume in 2021 reached historic highs, and the return of external demand to its pre-pandemic trend suggests further growth.

(at constant prices, seasonally adjusted data)

Dalintis:

Lithuania’s chemical exports continue to be the best performers in foreign markets, but exports of mineral and energy products also had a significant positive impact on growth. In comparative prices, mineral and energy products had the largest impact on the growth of goods exports, but chemical products were not far behind (see Chart 13). Lithuania’s exports of plastics and plastic products and fertilisers increased rapidly throughout the second half of the year. The rapid growth of reagent exports slowed down, but exports in 2021 were 13% higher than a year earlier. This high value-added group was replaced by the growth of export of nucleic acids (€ 223) and enzymes (€ 318 million). Although the export volumes of these goods individually are not yet at the level of exports of reagents (€ 736 million), their combined value totalled € 541 million in 2021. Exports of furniture and wood and wood-based products have also steadily increased, thanks to steady market demand, new products and recovering investment. Further developments in furniture and wood products will be influenced by the evolution of raw material prices, a significant part of which is imported from Belarus and Russia. Rising commodity prices may limit production and thus exports.

The volume of real exports of goods continued to increase in the second half of 2021, with the chemicals industry accounting for the bulk of the growth.

(change in export levels seasonally adjusted, compared to the previous period)

Dalintis:

As global foreign trade recovered, Lithuania’s share of the world export market for goods declined. The growth of Lithuania’s share of the world export market for goods slowed down in the first and second quarters of 2021 and turned negative in the third quarter. In the EU market, Lithuania’s market share fell in the second quarter, but rose again in the third quarter. During the pandemic, exports of pandemic-related goods contributed to the rapid increase in market shares. As its impact fades and competition in the market increases, Lithuania’s exports of reagents have grown more slowly than its competitors since the second quarter of 2021. In 2021, as the global economy recovered, foreign trade volumes increased in almost all EU countries, with Lithuanian exports growing slightly faster than the EU average (see Chart 14). In the short term, Lithuania’s share of the foreign trade market will decline. In 2022, this decline is attributed to the risks from trade with Belarus and China and the situation in the transport sector. The market share growth may be hampered by the production capacity utilisation rate, which has risen to historic highs and may limit further expansion of production and thus exports. Labour shortages and disruptions to global supply chains are also playing an increasingly important role as production and exports continue to expand. Political tensions also pose a risk to the development of the Lithuanian market share; if they materialise, export expansion may be restricted for political rather than economic reasons.

Lithuania’s goods export growth was close to the EU average until the end of 2021, and exceeded it at the end of the year, when growth slowed in Latvia and Estonia.

(3-month moving average, change compared to the previous period)

Dalintis:

Geopolitical uncertainty, disruptions in supply chains and rising prices have increased the need to secure stocks of raw materials and components, stimulating imports. In the second half of 2021, imports continued to grow faster than exports. This has been driven to a large extent by higher commodity and energy prices, but also by heightened uncertainty and geopolitical risks. The main contributor to the growth in imports, excluding fuels, is intermediate goods used in manufacturing. Apart from energy products, the main groups contributing to import growth were plastics and plastic products, ferrous metals and electrical machinery and equipment. Most imports of ferrous metals come from Russia and Belarus, while electrical machinery and equipment are imported from China. Mineral fuels and oils were the main contributors to the increase in total imports due to seasonal factors and price increases.

Trade in services continued to grow sluggishly in the second half of last year. Exports of services remained at a slightly lower level than in 2019 throughout the year, while imports of services continued to increase after picking up at the start of the year. Exports of other business services and telecommunications, computer and information services grew fastest, while transport services remained stable. It should be noted that the share of imported transport services in the total service imports is increasing. This is likely to be linked to the expansion of transport companies abroad as a result of the mobility package. In addition, the new requirements of the Mobility Package on regular return of trucks to their country of origin came into force this year, which has led some Lithuanian companies to plan expansion in countries closer to the main freight transport flows.

With foreign trade reaching historic highs in 2021, more moderate growth is projected. After the exceptionally strong growth in the second half of 2021, further growth in external trade is expected, but at a more moderate pace. The Bank of Lithuania forecasts that exports will grow by 5.2% and imports by 5.3% in 2022. The rapid expansion of Lithuania’s main trading partners is underpinning strong growth, which has a positive impact on demand for Lithuania’s exports, which is returning to the pre-pandemic levels. Nevertheless, uncertainties in the external sector are still heightened in 2022 due to the tense geopolitical situation regarding China and Belarus, while the balance of risks is also negatively affected by the situation in Ukraine.

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6.Prices

Continued global disruptions in supply chains, rising prices of various raw materials and energy resources are fuelling inflation worldwide. Lithuania was not an exception. Annual inflation, which had been picking up since March last year, has been in double-digit territory since December and stood at 14.0% in February (see Chart 15). Rising energy prices continue to account for most of the inflation. This is mainly due to the fact that prices on the markets for some energy sources, such as electricity and gas, have increased several-fold. While external factors account for the bulk of inflation, the impact of domestic factors has also intensified, with the prices of services, which are mainly linked to domestic economic developments, rising faster in recent months. Under the conventional scenario, average annual inflation is projected at 10.5% this year. However, since the outbreak of the war, the situation on the markets is changing very quickly and the uncertainty that can affect the forecast price developments has increased significantly.

Inflation in Lithuania is mainly driven by rising energy prices.

Dalintis:

As economies recover rapidly due to increased demand, geopolitical tensions on the continent have further exacerbated the rise in energy prices. The price of Brent crude oil had exceeded USD 130 per barrel when Russia invaded Ukraine. Russia produces around 10 million barrels of oil every day – on average, 10% of the world’s daily consumption. There are fears that the invasion could disrupt the global energy supply chains. This threat significantly increases oil prices. In addition to oil prices, natural gas prices rose even more, almost five times higher in February than in the same period a year earlier. Expectations for future gas price reductions are also changing. Based on futures contracts, as early as November last year, gas prices were expected to fall to €48/MWh by April 2022 (more than double compared to December last year). However, in the context of geopolitical tensions and sanctions imposed against Russia, which was already restricting gas supplies to Europe before the invasion of Ukraine, the current expected price of natural gas in April is around 3.3 times higher. Rising gas prices also affect electricity prices on the market. Last December, electricity prices on the Nord Pool power exchange were almost 5 times higher than a year ago. Although electricity prices on the market fell slightly in February this year, they were still almost 1.8 times higher than last year. The outbreak of war creates great uncertainty. If hostilities intensify or other significant developments occur, this could have a significant impact on energy prices in a number of directions. This could have a corresponding impact on both energy and headline inflation projections.

Among administered prices, heat prices are the main contributor to headline inflation.

Dalintis:

Food, including alcoholic beverages and tobacco, increased by 13.5% in February, after rising by less than 3% until September last year. Much of the increase in food prices is due to a significant rise in vegetable prices, which were 35.3% higher in February than a year earlier and contributed as much as 0.8 percentage point to headline inflation (see Chart 17). Looking at the vegetable group in more detail, the poor harvest has led to a particular increase in potato prices, which rose by more than 64% year-on-year in February. However, other food commodities, such as dairy products, meat and oil, are also currently experiencing increased price growth. The acceleration in food prices is due to higher global prices of food raw materials, which were almost 21% higher in February than a year earlier. In addition, higher feed and fertiliser prices are also likely to increase the prices of future agricultural harvests and livestock. Against this background, and taking into account the increase in energy prices, the conventional scenario projects food prices to rise faster this year than last year, at an average annual rate of 10.1%.

Most of the increase in food prices is due to higher vegetable prices.

Dalintis:

Prices of services that are most closely linked to domestic economic development are also rising faster. Prices of services, which have been rising at a faster pace since September last year, were already rising at an annual rate of 9.9% in February. Various services are becoming more expensive. In terms of services that make up a larger share of the consumption basket, catering services are one of the most important, accounting for 4.1% of consumption expenditure on average. Price growth for these services has also increased in recent months, reaching 11.3% in February. With wages rising rapidly and other costs increasing due to higher energy and industrial commodity prices, services are expected to become more expensive this year than last year. After rising at an average annual rate of 4.3% last year, prices of services are expected to grow at an average rate of 8.8% this year under the conventional scenario.

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7.Financing of the economy

As the Lithuanian economy continued to grow, financial liabilities of households increased at an accelerating pace, while non-financial corporations recovered from the pandemic recession. Based on the latest data from the Bank of Lithuania, in the third quarter of 2021, the financial liabilities of the Lithuanian population amounted to EUR 13.8 billion and increased by 4.4% on a half-yearly basis (annual growth of financial liabilities of households stood at 6.0%). The main contributor to the overall increase in household financing was a significant increase in financing from financial institutions, with the amount of loans held by households in the third quarter of 2021, 8.7% higher than a year earlier. During the projection period, financial liabilities of non-financial corporations increased by 5.5% on a half-yearly basis to EUR 43.7 billion (the annual growth in corporate financial liabilities amounted to 4.5% (see Chart 18). As the economy continued to grow, confidence among businesses and investors also increased, with the increase in corporate financing mainly driven by borrowing from other non-financial corporations and issuance of debt securities, which increased by 16.8% and 32.6% year-on-year, respectively. In the third quarter of 2021, compared to the corresponding quarter of the previous year, financial assets of households and non-financial corporations grew at a faster pace than their liabilities, resulting in an increase in net financial assets (the difference between financial liabilities and financial assets) by 19.3% and 11.4% respectively.

Corporate financing has recovered after a short-term pause.

Dalintis:

With the flows of lending for house purchase, consumption and other purposes following an upward trend, the portfolio of loans granted by MFIs to households moved along the same path in the fourth quarter of 2021. The flow of new loans granted by MFIs to households in the fourth quarter of 2021 increased by 16.8%, compared to the previous quarter, and exceeded the average quarterly flow recorded in 2019 by 55.4%. The main contributor to the growth in the flow of loans was housing loans, which grew by 16.8% in the fourth quarter of 2021, amid historically high housing market activity. The flow of new loans for consumption and other purposes soared by 16.9% in the third quarter of 2021, and its growth was fuelled by improvements in the labour market and the easing of lockdown restrictions over the recent months. As the flow of loans to households increased, the portfolio of loans granted by MFIs to households also grew at an accelerated pace. In December 2021, this portfolio was 10.7% higher than a year earlier (1.4% percentage points higher than in October) (see Chart 19). The main contributor to the portfolio growth was housing loans, which grew at an annual rate of 11.7% (0.5% percentage point higher than in October), the highest since May 2009. The portfolio of consumer and other loans resumed its upward trend after almost two years of contraction: in December, the portfolio was 5.5% higher than a year earlier (0.7% in October).

Strong growth in housing loans is driving the high pace of household financing, while growth in the corporate loan portfolio picked up rapidly in the last quarter of 2021.

Dalintis:

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8.General government finance

The increase in general government revenue is driven by the pick-up in activity in the Lithuanian economy and the collection of previously deferred taxes.

Dalintis:

Government expenditure is likely to have grown more slowly in 2021 and was lower than planned, mainly due to lower investment spending. The much slower increase in spending in 2021 is primarily due to the implementation of fiscal measures to mitigate the impact of the pandemic and the restrictions on economic activity, which are smaller in scope than in 2020. In 2021, these measures accounted for around 3% of GDP, around a quarter lower than a year ago (4.1% of GDP in 2020). Another factor that has significantly slowed growth in total spending was government investment, which in 2021 was around one fifth lower than a year earlier. The main contributors to the decline were a fall in investment in civil engineering buildings and structures, as well as a decrease in military-related investment. There is reason to believe that the lower investment in civil engineering buildings and structures is most likely due to difficulties in attracting the contractors needed to fulfil government contracts. As raw material prices on international markets started to rise rapidly from the second half of 2021, the cost of contractors’ works increased. If public tenders for engineering works were launched in the first half of 2021, it is likely that the maximum amounts of money earmarked for the works are insufficient to ensure the participation of contractors in public tenders. Weaker EU funds may have contributed to the drop in investment: the State Budget Implementation Report shows that only 60% of the annual plan for expenditure paid for by EU and other international assistance in 2021 was met. There also seem to be difficulties in using the funds foreseen for 2021 from the Next Generation Lithuania plan approved in July, funded by the EU’s Recovery and Resilience Facility. However, these flows are expected to intensify between 2022 and 2023, reaching between 0.6% and 1.0% of GDP annually.

The government debt-to-GDP ratio in 2021 was lower than a year earlier and stood at around 45%. The decrease in the debt ratio is mainly due to the redemption of the issue of bonds worth EUR 1.5 billion in March also contributed to the reduction in the need to borrow to finance the deficit, due to a smaller-than-expected deficit. The debt-to-GDP ratio is set to decline further in 2022 on the back of upcoming large bond redemptions, expected strong nominal GDP growth and a further decline in the average interest rate paid on debt.

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Abbreviations

APP                   asset purchase programme

ECB                  European Central Bank

EU                    European Union

Eurostat           Statistical Office of the European Union

Eurosystem      European Central Bank and euro area central banks

GDP                  gross domestic product

HICP                 Harmonised Index of Consumer Prices

IMF                   International Monetary Fund

MFI                   monetary financial institution

MMW                minimum monthly wage

OECD                Organisation for Economic Cooperation and Development

PEPP                 Pandemic emergency purchase programme

PPI                   Producer price index

RE                    real estate

UK                    United Kingdom

US                    United States of America

VAT                  value-added tax