Of course, the start of the war in Ukraine is one of the reasons for the economic difficulties in Estonia during this period, but the demand problems in its main export markets also played an important role here (the country depends to a very significant extent on exports to the Scandinavian countries, where there was a bit of a “surprise”, because even a possible recession in Sweden), the loss of raw material imports from Russia (the country is in principle implementing European Union sanctions), and now the decline in investments. Obviously, Lithuania also faced most of these problems.
How was Latvia doing at that time? Just as Vilnius does not like to compare itself with Kaunas, Lithuania compares itself with Latvia. It is also doing worse than Lithuania at this time. And there is nothing to be happy about. As with the recently mentioned Baltic Road, we are all better off now when we are strong together.
Let’s go back to Estonia. Estonia’s quarterly economic recession, which started in the first quarter of 2022, continued until the first quarter of this year. And only in the second quarter of this year, the first economic growth, reaching 0.7 percent, was recorded after this long economic “dip”.
At the same time, the Lithuanian economy has been growing for the past two quarters, even if not quite smoothly. In the second quarter of this year, even 3.5 percent, which was a very good result on the scale of the entire European Union: in the European Union, the economy grew by just 1.3 percent in the second quarter.
In 2023, Estonia’s economy shrank by as much as 3.0 percent, while Lithuania’s by only 0.3 percent. This year, even if the Estonian economy was expected to recover at the beginning of the year, it looks like the economy will shrink again, but maybe less so. Economic contraction of up to 0.5 percent is predicted, when the growth of the Lithuanian economy should be positive at that time.
Who is saving Estonia’s economy at least a little? So far, public sector investments have become the engine of the economy. Private companies do not have good news this year and say they will continue to cut back on investment as they face major challenges with demand from domestic and export markets. So, for the time being, only employees whose salaries do not stop growing and interest rate cuts have already started “celebrating” in Estonia.
And although Estonia’s economy has found itself in this situation for many reasons, anyone could deny (and not one economist has emphasized this) that its economic growth is stagnant this year also due to the implemented tax reform, during which VAT has increased from 20 to 20 percent since the beginning of this year 22 percent, personal income and profit taxes will increase from 20 to 22 percent from 2025. And that’s not all. Already offered from July 2025. to increase VAT to 24 percent. and personal income tax – up to 24 percent. from the beginning of 2026. It is intended to introduce a temporary component of the defense profit tax, amounting to 2 percent, to the corporate profit tax. point, which will be applied from the beginning of 2026 to the end of 2028. And only other governments will decide whether that defense component needs to be left in force after 2028 or to be destroyed anyway.
Perhaps not wanting to repeat Estonia’s fate, Latvia decided to hold back its tax reform, which proposed increasing the progressivity of VAT and personal income tax.
We all understand that the budgets of the Baltic countries vitally need additional funds to finance the defense sector. But the examples of our neighbors more than clearly show that unmeasured tax reforms, which cut through the possibilities of economic growth and immediately worsen the mood of consumers, begin to drown the entire economy of the country, and with it the GDP. I will not tire of repeating that defense also receives less from a lower GDP. And then a new tax equilibrium begins again, which is very damaging to both business and consumer confidence. And the trap closes.
What can we do so that we don’t fall into that trap? Geopolitical challenges in our region are no longer challenges, but a permanent geopolitical state. It is clear that we must invest in our own security first. But it is more important than ever that the sources of funds for such investments are well thought out, and that any changes and reforms are measured, evaluated and discussed.
Once again, I remind you that business taxes are not some kind of bag that you draw from when you need it. Usually, if you put your hand in there carelessly, you can leave a huge hole in the bottom. It’s a good thing that we didn’t do that a year ago and our really poorly designed tax reform ended up in the drawer. That is why we have been able to calmly create a defense fund and plan it wisely. And that is why we can now learn from the mistakes of our neighbors and keep an eye on our economic growth.
2024-08-27 15:59:35