The year of the tightening belt

The Baltic Times
Adam Mullett
January, 7, 2009

VILNIUS – Doom and gloom is forecast for the Lithuanian economy in 2009. Negative growth rates and high unemployment are in store for the country, which is experiencing its first financial woes since European Union accession.

Most analysts agree that 2009 will be remembered as the year of cost cutting and saving for both the Lithuanian people and the government. Thousands have already lost their jobs, and thousands more have been informed about their dim prospects for promotion or raises.
Experts from the government, the International Monetary Fund (IMF) and the major banks in the region have all predicted a Gross Domestic Product (GDP) contraction and a wave of unemployment.
The new government, which came to power in December, undoubtedly has the hardest job in the country’s short history – to make the difficult and unpopular decisions needed to bring the economy back from the brink after.

A large part of the new government’s election promises focused on conservative fiscal policies that could steady the wayward economy. Voters seemed to get it right after the IMF rubber stamped the anti-crisis plan put forward by the new Andrius Kubilius-led government.

The anti-crisis plan has been welcomed by most experts, but shunned by taxpayers who have to bare the brunt of the policies.
The plan aims to reduce spending massively and to increase funds with a new tax scheme. Thousands of job vacancies in the government have been cancelled and bonuses, which are a popular way to give raises to public servants, have been slashed or rescinded.

A new 20-20-20 tax plan has been brought in – 20 percent personal income tax, corporate tax and Value Added Tax (VAT). The previous tax rates in the country were 24, 15 and 18 percent respectively.
In a recent visit to Lithuania, representatives of the IMF found that the anti-crisis plan was formed on good principles, but may need to be hardened to cope with growing pressures.
“After three to four months we might have to review the anti-crisis plan and tighten it even more. We will have to reduce government spending and maybe enhance taxes again. They suggested to us a decrease in consumption – it might be that we will [also] be enlarging the income-tax,” Seimas Budget and Finance committee head Kestutis Glaveckas said.

Tomas Andrejauskas, deputy chairman of the board of Swedbank and head of the bank’s Lithuanian operations, said the government is doing the right thing raising capital and not taking a loan, like northern neighbor Latvia.

“If you look at other countries, they are in a lot of debt. The future is now. Debt from now will be serviced by the children of this generation… We don’t want this here in Lithuania,” he told The Baltic Times.
Andrejauskas said that Lithuania needs to look at where it spends its money.
“Countries’ debts are structured for 50 years ahead. Someone has to pay for this. People are used to buying whatever they want. We are buying things that we don’t really need, which are made outside of Lithuania. We send the money outside of the country and we are left with a debt.”

The anti-crisis plan could be tightened by cutting income tax by 3 percent instead of 4, leaving the rate at 21 percent.
Income tax includes health insurance tax, which would amount to 6 percent, instead of the current 5 percent rate.

“There are no sources of funds to balance the health budget. Next year’s projections for the economy and the social insurance fund are getting worse and worse every day. Hence we have to look for money needed for hospitals and other health establishments,” Health Minister Algis Caplikas told the Baltic News Service.
SEB Bankas is expecting unemployment to jump up from the current 5.9 percent to around 8 percent, putting extra strain on the social insurance fund, which also pays out unemployment and pension benefits.

Lithuania’s GDP has been higher than northern neighbors Latvia and Estonia, where people have already felt the ‘hard landing’ that was predicted early in 2008. Recession has hit the two countries and Latvia was forced to take a loan from the IMF for 7.5 billion euros to stabilize the economy (see story Page 12).
Andrejauskas said accurate predictions have become harder to make recently.

“It has become difficult to forecast these numbers and you shouldn’t look at the reports so strictly because the environment is changing very quickly. Foreign countries are changing and the credit and export markets are changing. I don’t know what the GDP will be, but we are looking at a range of minus 1.5 percent and plus 0.5 percent. We think that the finance ministry is being a little bit pessimistic,” he said about the Ministry of Finance’s predictions of GDP contraction of 4.8 percent for 2009.

Gitanas Nauseda, chief financial analyst of SEB Bankas is more pessimistic than his Swedbank counterpart.
“For 2009 and 2010, we are expecting GDP to contract by 2 percent. We expect that a recession is unavoidable. Inflation will drop to 6, then 5 percent in those years and unemployment will be around 8 percent,” he told The Baltic Times.

The Lithuanian economy is expected to return to growth by 2011.
“2011 will show the first signs of recovery. It won’t be that impressive, but it will show,” Nauseda said.
“In 2009 we expect minus growth so there will be no driving industries, but in 2011, some manufacturing industries that export will drive Lithuania into growth,” he added.
IMF head Dominique Strauss-Kahn told BBC in December that the entire world would need to spend about $1.2 trillion to make a lasting impact and stimulate growth.
Local experts on the other hand have been united saying that consumers and business should avoid giving away their litas.

“The problem here is highly leveraged growth. Lithuania cannot become overleveraged. We have no natural resources, so we need to be competitive. We used to have an advantage because we had a cheap labor force, but now that is gone,” Andrejauskas said.
“Its more difficult for those with debt. They have to service this debt and if people have falling incomes, then it will become problematic for them. People should avoid debt, carefully consider large purchases, save and limit consumption,” he said.

Nauseda agreed that people should avoid debt, especially in early 2009, when the crisis is expected to be worst.

Expert advice

Tomas Andrejauskas
“People should avoid debt, consider large purchases, save and limit consumption.” “Business should concentrate on their core activities. It is a good idea to avoid opportunistic business things. The core will help them to survive. Everyone should think about how to decrease costs. Your expenses must be less than your income.”

Gitanas Nauseda
“Businesses should look for new markets – I know this is hard in the current situation, but it is a solution.” “People need to cut expenditures – the same goes for business and for people. People should also keep their distance from borrowing money, especially in the near future.”

– Public sector deficit in 2009 will be 2.1 percent of GDP
– The new VAT should generate 9.937 billion litas in revenue, around 38.5 percent of the total national budget revenue.
– Personal income tax revenues are projected at 4.907 billion litas, or 20.2 percent of the overall revenues.
– 3.992 billion litas, or 16.5 percent, in revenues should come from excise taxes.
– The central government’s budget for 2009 is planned with a deficit of 1.497 billion litas. Revenues are projected at 25.448 billion litas, including 5.468 billion litas in EU funds.
– Spending is set to increase by 371.3 million litas compared with this year to 26.944 billion litas.