[BRIEF NOTE] On the Estonian economic model, v 2.0

[rfmcdonald]

The Estonian economy was hit very hard by the global credit crunch; saying that its crunch was less bad than Lithuania's and Latvia's isn't saying much. Bloomberg's Ott Ummelas writes that by certain metrics, Estonia--now slated to become a member-state of the rich-countries' club the OECD--is doing considerably better than most of the rest of Europe.

The Baltic state will outperform the 16 euro nations on the EU’s fiscal criteria this year, according to the European Commission, the bloc’s executive arm. That means Estonia will probably receive the backing of EU officials when they assess the country’s euro bid tomorrow, said Christian Keller, chief economist for emerging market currencies at Barclays Capital.

“Estonia seems pretty much a model of the fiscal discipline that the EU now wants to bring to the entire euro area,” Keller, who is based in London, said in an e-mailed response to questions.

[. . .]

European Commission President Jose Barroso said yesterday Estonia “most likely” will join the euro area soon. It would be the second-smallest euro economy after Cyprus, with gross domestic product of about $23 billion.

While Estonia’s government doesn’t have any outstanding bonds, investors trade credit default swaps on the country’s debt. Five-year Estonian CDS averaged 98 basis points since the end of March, compared with 141 basis points on Italian five- year debt. That shows investors would be more at ease holding Estonian debt than bonds issued by a founding euro member.

Estonia, with debt estimated at 9.6 percent of GDP this year and a deficit equal to 2.4 percent of GDP, is an “exception,” and other candidate countries may face delayed membership as higher debt financing costs stretch deficits, Fitch Ratings said May 6.

Estonia’s austerity measures came at the cost of demand, and the economy contracted 14.1 percent last year. GDP shrank a seasonally adjusted 2.3 percent in the first three months of this year, the national statistics office said today.

Good macroeconomics is one thing. Recreating demand in the context of government austerity without risking exposure to cheap credit is another, while just as surely as in Argentina after 2001 the crash created and magnified existing socioeconomic divisions: rates of poverty among retirees and the very numerous unemployed (nearly 15%) are high, and unemployment itself may not return to pre-crash levels for a decade.