Monday, January 24

Double-digit inflation is a disadvantage for the Baltic countries in the Euro club

The new members of the euro zone have no regrets about joining the currency bloc, but they are grappling with one of its main drawbacks.

In the Baltic country of Estonia, inflation hit a two-decade high of 12.2% in December. Neighboring Lithuania fared little better, with data this week showing price growth of more than double the euro zone’s record 5% rate.

They shouldn’t expect monetary policy to come to the rescue anytime soon: The European Central Bank’s chief economist reiterated on Tuesday that an interest rate hike is “highly unlikely” in 2022 as forecasts suggest inflation will rise. will slow below the ECB’s 2% target. in the medium term.

That contrasts with more aggressive action in non-euro zone nations, with central bankers from Warsaw to Budapest acting aggressively to rein in the kind of price rise not seen since the aftermath of communism.

If we had our own monetary policy, “we would probably be doing what Poland is doing and raising interest rates,” said Martins Abolins, an economist at Citadele Banka in Riga, the capital of Latvia, where consumer prices rose 7.9%. last month.

While borrowing costs have been “a little too low” for the Baltic region for years without causing serious economic imbalances, the rising share of wages in gross domestic product is cause for concern, he said by phone.

That concern is on full display in Estonia, where the government is considering measures to cool inflation through the budget.

“If we have a single interest rate policy across the euro area, then the role of national fiscal policy is to smooth out the differences,” Finance Minister Keit Pentus-Rosimannus told Bloomberg last month.

His Lithuanian counterpart, Gintare Skaiste, agrees, telling a news conference on Wednesday that the issue of divergent economic situations has been raised at Eurogroup meetings.

“Finding policies that suit everyone is difficult,” Skaiste said. “So we need to rely more on domestic measures that countries can take.”

Compounding the rate mismatch, there is an acute shortage of workers in the region, while billions of euros in cash for the EU’s pandemic recovery are due to start pouring in soon.

Still, there is no doubt that the Baltic nations are happy to have adopted the euro. Along with the economic and commercial benefits, the change helped cement a Western orientation for the region of 6 million people, outside Moscow’s orbit.

Being part of the euro zone has been a “huge benefit”, according to Latvian central bank governor Martins Kazaks, whose country joined eight years ago.

“Take a look at the very simple example of the 2008 crisis and the 2020 crisis,” he said at an online event this week. “If at that time we had no possibility of getting into debt and the fiscal adjustment had to be extremely painful, now it is a very different story.”

Unlike places like Germany, there are also few public complaints about the current price hike, as many Baltic citizens have survived the hyperinflation caused by the collapse of the Soviet Union.

In some ways, their current situation is just a more extreme version of what is happening in the larger members of the euro zone, with energy as the driving force.

Half of last month’s rise in Estonian prices came from energy, with electricity and natural gas costs up more than 120% from a year earlier in December and usage higher in cooler northern temperatures.

But their plight may also set off alarm bells at the ECB, with the Tallinn central bank speaking in more urgent terms than policymakers in Frankfurt about the danger of spillovers.

“High energy prices mean that inflation will not come down in the near future,” Sulev Pert, an economist at Estonia’s central bank, said last week. “It’s bad for the economy if a temporary rise in inflation leads to higher labor costs for businesses, forcing them to adjust their own prices and thus causing a wage-price spiral.”

© 2022 Bloomberg

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