Estonia: A Resurgent Baltic Tiger In Defiance of Mainstream Antidote?

Andreas Hoffmann writing in Thinkmarkets sees Estonia as a returning Baltic Tiger.

Here is Professor Andreas Hoffmann (all bold highlights mine)

``the Estonian government reacted in a way to the current crisis that should bring tears of joy into the eyes of any free market economist: First, they did everything to hinder a devaluation of the Estonian kroon, as a relatively stable exchange rate to the euro is a prerequisite for euro introduction. Secondly, they did not overspend. Instead they cut wages heavily with the fall in per capita GDP – even in the public sector. And third, unlike most economies, Estonia did not sacrifice economic freedom for crisis management. Instead, officials wait for the crisis to heal the market. At the same time lower spending is assumed to bring inflation down. The crisis is seen as a chance to (readjust and) fulfill the Maastricht inflation criterion, which was impossible during the boom period.

``Thus, as Estonia allowed for an adjustment process, malinvestment from the previous boom should be dismantled soon. This should bring about lucrative future investment possibilities in an economy with solid macroeconomic fundamentals, a high degree of economic freedom and prospects to enter the euro zone. At the moment interest rates are much higher there than in the euro area and a credible fixed exchange rate assures against depreciation. These facts should attract new investors. Therefore it is likely that we soon see the return of at least one Baltic tiger."

What makes the Estonian account very interesting is that she appears to have taken an unorthodox (or outlier) approach in dealing with the recent crisis- market based adjustments that had been swift, drastic and painful. But instead of encountering a prolonged recession or even a depression, it now seems that Estonia have been revealing signs of an equally rapid and dramatic recovery.

This seems to contravene anew the conventional notion that markets, when left to their own devices ("officials wait for the crisis to heal the market") to deal with the recessions or a crisis, would cause a depression.

Even the IMF look equally impressed: ``Following recent budget measures and assuming continued fiscal consolidation efforts, Estonia could meet all Maastricht criteria, while the policy record to date provides assurances for continued stability-oriented policies. This is remarkable, as it is being achieved against the background of severe dislocations due to the crisis. Joining the euro zone would remove residual currency and liquidity risks, adding stability to the Estonian economy."

Here are some charts from the IMF...

Real Effective Exchange Rates

Real Wages and Monetary Aggregates

Real GDP and Inflation

Estonia's OMX Talinn Index (from Bloomberg) [up 36% year to date]

I'll leave it to this blog's Estonian readers to contribute to this outlook.