November 29, 2011.Country Report No. 11/333. Estonia has experienced a sharp export-led recovery in its first year in the euro area.But price pressures have emerged—largely reflecting global food and fuel prices—and unemployment, while declining, has remained high with increasing long-term joblessness. In 2012, the economy is set to slowdown in line with weakening export markets but the output gap will continue to close. With increased downside risks, Estonia faces the continuing challenge to implement policies preserving macroeconomic policy credibility, while enhancing sustainable growth.
Fiscal policy: Estonia’s enviable fiscal position will remain strong even though a deficit of about 2¼ percent of GDP will emerge in 2012. This will imply a fiscal stimulus at a time when a neutral stance would be appropriate. Adhering to the budgetary allocations would be appropriate. Should downside risks materialize, automatic stabilizers should be allowed to operate while preserving credibility. Looking forward, the authorities’ medium-term target of a small surplus can be supported by a fully fledged multi-year fiscal framework, which would allow fiscal buffers to be rebuilt.
The financial sector: On balance, risks to the financial sector appear manageable. But potential contagion from the euro area or parent banks requires continued vigilance. Further improvements in cross-border supervision and crisis resolution, preparing for Basel III, and continuing efforts to increase deposit guarantees will be essential. Also, reforms expediting Estonia’s bankruptcy process are necessary.
Long-run growth: Besides safeguarding Estonia’s competitiveness, increasing sustainable long-run growth will require moving up the value chain, addressing long-term unemployment, and enhancing human capital. Fostering a business-friendly environment by building R&D capability and enhancing cross-border infrastructure can attract tradable sector FDI. Further improvements in vocational training and higher education can alleviate long-run unemployment and boost human resources.
International Monetary Fund Country Report No. 11/333.November 9, 2011
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