At the Baltic Sea region investment conference you forecast that Lithuania would devalue its national currency, the litas, within the next 12 months. Do you still think it's going to happen, and why?
What I actually said was that if the current economic policy is continued there is no way of avoiding devaluation.
In Lithuania, export of foodstuffs is very dependent on the Russian market. And when the crisis came, food export to Russia fell very dramatically. In absolute terms the effect was much greater than in Latvia or Estonia. So the export side is a problem. Imports have held up and are continuing in a similar trend.
The problem is that the government is subsidizing the local economy. The government is paying out compensation to people for the ruble-deposit conversions. When they introduced the Lithuanian litas, people lost a lot of money. The government at that time said that they would compensate that to people. This was a long time ago, but the same people are in power again and they have decided to keep their promise. What it means from the economic point of view is that they take for example money from the Lithuanian Telekom privatization and money they've borrowed abroad and use this money to pay people and compensate people.
Domestic demand is staying very stable and people are buying a lot of goods, which are being imported. The current account deficit, which is a very big problem right now, has shown no signs of improvement. They keep on pumping up the domestic demand but failing to find new export markets. You cannot keep on financing it forever, and sooner or later you are going to run out of money to keep domestic demand at these high levels.
The only solution would be devaluation. Then you can finance your imports through exports. Lithuania's current account deficit last year was increasing rather than falling, and we cannot see any improvement during this year. Eventually they may lose trust for the market place and they won't be able to borrow from international markets any more. They'll have to find markets in the West to replace the loss in the East.
What would make it easier to export to the West?
It is the price because they do not have a lot of other advantages. In England, Sweden or Germany people buy goods not because of quality but probably because of a low price.
Are there any other solutions besides devaluation?
The government might decide to take some kind of actions to improve the macroeconomic imbalances. They can cut domestic demand in order to bring imports down. There are new people in government, so lets see what they can do.
Do these kinds of problems threaten Latvia and Estonia?
Latvia has problems as well but not as serious as Lithuania's because the government is more willing to take action. In the case of Estonia measures have been taken and right now the government is in the midst of discussions about cutting the budget further.
What would you advise the Estonian government to do?
The government is under enormous pressure to take steps in ensuring that the budget deficit does not grow too large in 1999. No doubt there will be a budget deficit. There will be a budget deficit because the economy slowed down more than some people had expected. If you cut government expenditures too much at a time when the economy is slowing down anyway, it makes the economic slowdown even sharper. The budget deficit cannot grow too much otherwise Estonia starts sending alarming signals to the outside world. So, Estonia has to find the right balance and I think the government is making the right moves.
The gross domestic growth for Estonia was 5.8 percent negative in the first quarter. In Latvia it was 3 or 4 percent negative. What growth do you forecast by the end of the year?
Statistics are not as reliable as we might like them to be and we do not know what sort of revisions will come to this vision. We feel that Estonia will have a modest growth if right economic measures are taken, either 0.5 percent or 2 percent. The Estonian economy is very small and it can react very sharply. As long as the European economy stays steady and does not go to some form of recession, confidence will return. The first quarter was still too dependent on the Russian crisis, but the second half of the year will be very different from the first half, I believe.
Do you think Estonia should start protecting its market?
Not at all. I think Estonia is too small to try to protect its market. Its future has to lie in liberal policies and stay in an entirely open and low-tax economy. I believe that this talk of Estonia becoming a Hong Kong is actually true. Estonia will become Hong Kong towards Scandinavia not Russia. Scandinavia is very highly regulated and very highly taxed and Scandinavian entrepreneurs will come to find opportunities in this country.