Friday, 6 July 2012

What about Estonia?

Since my last entry which looked at Greece's debt woes and the problems with severe austerity there has been a lot of talk about Balkan nations, in particular Estonia, that has achieved robust growth after austerity. Yes Estonia has performed better relative to the rest of Europe, but not due to the hard, fast austerity measures that their incumbent government is 'talking up'. Krugman and commentators from The Economist have been quick to point this out for a number of reasons. 

Firstly, the marginal cost of labor and per capita wealth within Estonia is much lower then other European nations, this has allowed them to produce competitively priced exports and subsequently sustain growth during the unfolding euro crisis. Countries like Greece do not have this luxury because they are 'stuck' with; high wages and a fixed currency, meaning they cannot be competitive, and cannot not export themselves out of the recession, or at least with out external fiscal assistance.

Secondly, as illustrated below Estonia had a much lower volume of public spending.

(Krugman, 2012)
The corollary being that relative to many of Germany's neighbours that required a large quantum of debt to sustain public spending, Estonia required much less and in-fact carried a current account surplus. Hence, the level of austerity required within Estonia did not need to be as severe and the subsequent adverse impacts were less. 

However, something that the prominent commentators have failed to consider was why there was considerably less public spending within Estonia. Well I put this down to two first reasons. The former being that Estonia needed to sustain healthy balance sheets to meet the criteria that ultimately would allow them to adopt the Euro currency. This meant being fiscally conservative and keeping sovereign debt levels low. In regards to the latter, the cost of debt was too high to seriously consider any public investment. Many of the countries that binged on credit and public investment did this because the investment decision was sound due to the extremely low cost and high availability of credit.

In summary, the reason for strong growth in Estonia is not due to hard fast austerity or their post recession brinksmanship. Estonia has had to work hard to get their economy in shape pre rescission.  Their incentive - EMU membership and adoption of the EU. The structural changes they made before the recession, which encompassed; low public spending and debt, plus the benefit of having a cheap labor market has allowed Estonia to weather the storm. 

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