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Viewing cable 07TALLINN92, ESTONIA'S ECONOMY: OUTLOOK FOR CONTINUED GROWTH

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Reference ID Created Released Classification Origin
07TALLINN92 2007-02-13 13:57 2011-08-25 00:00 UNCLASSIFIED//FOR OFFICIAL USE ONLY Embassy Tallinn
VZCZCXRO6094
RR RUEHAG RUEHAST RUEHDA RUEHDBU RUEHDF RUEHFL RUEHIK RUEHKW RUEHLA
RUEHLN RUEHLZ RUEHROV RUEHSR RUEHVK RUEHYG
DE RUEHTL #0092/01 0441357
ZNR UUUUU ZZH
R 131357Z FEB 07
FM AMEMBASSY TALLINN
TO RUEHC/SECSTATE WASHDC 9512
INFO RUEHZL/EUROPEAN POLITICAL COLLECTIVE
UNCLAS SECTION 01 OF 02 TALLINN 000092 
 
SIPDIS 
 
STATE FOR EEB/CBA, EUR/NB 
 
SIPDIS 
SENSITIVE 
 
E.O. 12958: N/A 
TAGS: ECON EFIN PGOV EN
 
SUBJECT: ESTONIA'S ECONOMY: OUTLOOK FOR CONTINUED GROWTH 
LOOKS GOOD 
 
REF: (A) 06 TALLINN 989 (B) TALLINN 33 
 
1.  (U) Estonia's economic growth has exceeded 10% for two 
years running.  This has led to the inevitable question: 
"How long can it last"?  Regional banks, the Ministry of 
Finance, and financial media all forecast around 9% real 
GDP growth in 2007, down from 11.5% in 2006.  While a few 
local observers fear a sharper downturn in the coming 
months, the vast majority of analysts see the economy 
continuing to grow in the 7-9% range for the next several 
years.  Some officials, including Prime Minister Andrus 
Ansip, have continued to express concern about the 
possibility of the economy overheating. 
 
STRONG FUNDAMENTALS... 
---------------------- 
 
2.  (SBU) Financial sector experts emphasize that Estonia's 
economic fundamentals are strong.  Unlike Latvia and 
Lithuania, the GOE's budget has been running at a surplus 
(between 2-6%) since 2001.  Moreover, Estonia's membership 
in the EU, sound fiscal and banking policies, oil-shale 
based energy independence, well-developed communications 
infrastructure, and its educated, multi-lingual workforce 
provide a strong basis for long-term economic growth. 
Rasmus Pikkani, Sampo Bank Chief Investment Officer and 
Aivar Reinap, the Chief Editor of Postimees Online both 
told us they expect the Estonian economy to continue 
growing at least 7-8% in the coming years, barring any 
major external shock.  They noted that while 7-8% growth is 
lower than Estonia has experienced recently, it is still 
very respectable compared to the EU average.  A recent 
Postimees article, which surveyed four commercial banks, 
the Estonian Institute of Economic Research, the Central 
Bank and the Finance Ministry, reported strong consensus 
among experts that Estonia will experience healthy economic 
growth in 2007.  Growth predictions were remarkably 
similar, ranging from 8 to 9.5%.  Both President Ilves and 
PM Ansip have told us they hope to see a mild cooling of 
the economy, as they believe that recent growth rates are 
not sustainable. 
 
3. (SBU) Pikkani and Reinap told us they believe Estonia's 
economy is less vulnerable to external shocks than it was 
4-6 years ago.  Estimates are that the share of Estonia's 
economy that is dependent on Russia has fallen from 40% at 
the time of the 1998 ruble crisis, to roughly 10% today. 
Even if the GOR took steps to restrict trade, or the 
Russian economy took another sharp downturn, the impact on 
Estonia would be relatively limited, they said.  Estonia is 
now firmly integrated into the EU market and its border 
with Russia is part of the EU's eastern border.  Also, 
since the 1990s, Estonian exporters have successfully 
developed mechanisms and relationships for exporting 
through neighboring countries to get around unexpected 
customs and trade barriers.  Pikkani also said he does not 
believe a downturn in other EU economies would negatively 
impact Estonia.  Rather, it could have the effect of making 
Estonia relatively more attractive as a lower-cost, near- 
shoring locale for companies in the old EU-15. 
 
...AND AREAS TO WATCH 
--------------------- 
 
4.  (SBU) While most analysts are predicting a soft-landing 
for the economy, this does not mean that there are no 
potential dangers on the horizon.  Erki Lohmuste, Head of 
Macro Analysis at the Ministry of Finance, pointed to two 
factors that are generally believed to have the potential 
to cause problems for Estonia's economy in the next few 
years: an inflationary push caused by across-the-board 
demands for increased wages, and excess levels of credit 
and consumer debt.  The country's growing labor shortage 
(Ref B) and the need for structural transition in the 
economy toward higher value-added exports and services are 
also challenges the economy will have to face.  In this 
last regard, both analysts and politicians have highlighted 
to us the need to pay more attention to education and new 
technology as means of increasing productivity. 
 
5.  (SBU)  As Lohmuste explained, the threat of a credit 
bubble is particularly hard to address because most of the 
lending comes from large Swedish and Finnish banks.  They 
control over 95% of the market, but see their operations in 
Estonia as a relatively small part of their overall 
portfolios.  This makes them more willing to make somewhat 
riskier loans.  Nevertheless, Estonian Central Bank 
Governor Andres Lipstock told us recently that he has had 
 
TALLINN 00000092  002 OF 002 
 
 
some success persuading Swedish Central Bank officials to 
caution the Swedish commercial banks that have branches in 
the Baltics to exercise greater due diligence over their 
loan portfolios. 
 
6.  (SBU) With respect to inflation, (which has averaged 
about 4% since 2002) the GOE is primarily concerned about 
meeting Maastrict targets for Euro zone entry.  (Note:  The 
GOE's informal target for this has slipped to 2011.  End 
Note.)  Sampo Bank's Pikkani expressed his concern that 
inflation's distortionary effects on consumer prices and 
public sector finances could have an impact on long term 
growth.  As an example, he noted the fact that medical 
workers recently negotiated a 20% pay increase.  If this 
increase is repeated in other public sectors, he asserted, 
it will add significantly to inflationary pressure on the 
economy.  As GOE officials freely admit, they have few 
policy tools available to them to address inflation, and 
they have steadfastly refused to take any steps that might 
result in slower growth in order to rein in inflation. 
Estonia's currency has been pegged to the Euro since 1999, 
and to the Deutschmark for seven years before that. 
Pikkani and Reinap both feel that since Estonia has few if 
any monetary tools with which to control inflation, it is 
most important for the GOE to maintain its international 
reputation for transparency and fiscal responsibility. 
 
GOLDSTEIN