The global economy will recover as output is projected to expand at a rate of 5.7 per cent this year. Last year the global economy contracted by 3.2 per cent – almost as much as in the last year of World War II in 1945. The contraction during the financial crisis of 2009 – estimated by the World Bank at 1.7 per cent – was modest compared to the corona crisis. The upswing will be bolstered by very vigorous fiscal and monetary stimulus. The single most important factor supporting growth has nevertheless been the development of corona vaccines in record time. Globally, adequate vaccine coverage is nevertheless being achieved slowly so the recovery of the service sector will continue in many countries in 2022 and 2023. We forecast the global economy will grow by 4.6 per cent next year.
Of the developed countries, growth is particularly strong this year in the United States, despite the fact that the spread of the delta variant of corona is hampering the recovery in services in the autumn: we forecast the US economy will grow at a rate of 5.7 per cent (6.3 per cent in the spring). Part of the boost to economic growth comes from the Fed’s expansionary monetary policy, but an even stronger impact stems from a strongly stimulative fiscal policy. The IMF (Fiscal Monitor, July 2021) estimates that the direct discretionary stimulus provided by the US in the corona crisis has so far been 25.4 per cent of GDP. Next year we forecast the US economy will grow by 4.5 per cent.
The euro area has also recovered from the corona crisis, but due to slower progress in vaccine coverage, growth will be slower than, for example, in the US. Discretionary stimulus in the euro area will also lag behind that of the US. On the other hand, vaccine coverage has already risen higher than in the US at the beginning of September. In addition, the expansionary effect of so-called automatic stabilizers is of key importance in many euro area countries. Etla forecasts that euro area GDP will grow by 4.5 per cent this year and by 4.4 per cent next year.
The German economy is growing at a slightly slower pace than the euro area on average. On the other hand, the German economy also suffered significantly less from the corona crisis than the euro area economies on average: German GDP fell by 4.6 per cent in 2020 while that of the euro area contracted by 6.3 per cent. Indeed, Germany benefited from the fact that industrial production, which had recovered rapidly, accounted for a larger share of its value added than the euro area on average. The biggest declines were recorded last year in the economies of southern Europe, with the Spanish economy shrinking by 10.8 per cent and the Italian economy by 8.9 per cent. On the other hand, countries with the steepest economic downturns will see solid growth figures this year – especially in the second half of this year as tourism increases.
A politically significant decision was taken last year when EU countries agreed in the summer on a recovery fund totalling 750 billion euros. The so-called “Next Generation EU” recovery instrument provides 390 billion euros in direct aid to Member States, while 360 billion euros is loan-based aid. The money is distributed to member states on the basis of pre-pandemic economic performance and, in part, on the basis of the fall in production caused by the corona crisis (inversely). The package is financed by the joint borrowing of EU countries. The recovery instrument will spawn growth in EU countries by an average of a few tenths of a per cent during the forecast period: the effects will be small in northern European countries, such as Finland, but significant in southern European ones, such as Italy.
The Chinese economy is forecast to grow 8.0 per cent this year. Growth is among the fastest in the world, and is the result of controlling the pandemic with an iron grip (i.e., in a way that would not be possible in Europe). The rapid pace of vaccination has also helped, although there has been debate about the effectiveness of Chinese vaccines. Chinese industry has simultaneously been a driver of both global economic growth and the growth of trade in goods. For next year, we forecast 5.8 per cent growth by China.
We expect the ECB will keep its key interest rates near zero until at least 2023. The tightening of monetary policy in the euro area will nevertheless gradually begin already toward the end of this year as net purchases of securities are reduced. In the United States, where a strongly accommodative fiscal policy has clearly spurred inflation already this year, we expect the Fed to raise its key interest rates in early 2023. In the United States, the tightening of unconventional monetary policy is also stronger than in the euro area, as we expect the Fed to stop net purchases of securities completely next year.
There are several risks to the economic outlook. The main risks relate to pandemic management, slower-than-expected progress in global vaccine coverage, and new more contagious viral variants that at least partially circumvent the protection provided by vaccines. There are also risks in world trade. The logistic problems stemming from the shortage of cargo containers and the temporary closures of ports and factories in Asia may continue, thus complicating the operation of supply chains. The smooth operation of supply chains is also hampered by problems with the availability of components such as microchips and some raw materials. In addition, the relationship between the US and China remains tense, which may result in bilateral tariffs or regulatory changes that also affect the trading costs of companies based in EU countries.
Finland’s gross domestic product fell by 2.9 per cent last year, according to preliminary National Accounts figures. Private consumption fell by as much as 4.7 per cent. Exports decreased by 6.7 per cent. At the same time, imports contracted by 6.4 per cent, so that net exports contributed (slightly) negatively to economic growth on the basis of revised data. Investment decreased by 0.7 per cent.
We forecast that Finland’s GDP will grow by 3.5 per cent this year. The growth rate has thus been revised upwards by 0.5 percentage points compared to last March. The upward revision is the result of a faster-than-expected improvement in working hours and thus private consumption. Indeed, private consumption clearly contributes positively to economic growth this year and next. We forecast next year’s economic growth will be 3.0 per cent.
According to our forecast, exports will grow by just over 4 per cent this year and by more than 9 per cent next year. Investment will grow by less than 3 per cent this year and by almost 3.5 per cent in 2022. Private consumption will increase by 3 per cent this year as the restrictions caused by the epidemic are gradually phased out during the autumn. Next year we forecast private consumption will grow by just over 3.5 per cent. In 2023, we expect Finland’s GDP will grow by 1.7 per cent, which is slightly faster than our potential output growth rate, as some industries will not recover from the pandemic until 2023.
We estimate that the production gap will be clearly negative this year. The Finnish economy will indeed still be performing below its potential this year. We estimate that the production gap will be only slightly negative next year as production almost reaches its potential level.
We forecast the volume of exports will grow by 4.2 per cent this year. Exports of goods will grow by 5.8 per cent, while services will remain at about last year’s level. Exports of services collapsed by as much as 16 per cent last year, so there is a ways to go before a full recovery is achieved. Surprisingly, exports from the paper industry rose particularly sharply in the spring of this year. Exports of pulp and board are growing strongly, but exports of paper have increased only slightly, as expected. Exports of timber and metal processing products are growing rapidly as construction recovers in Europe. The order backlog in the transportation industry will remain strong, which will bolster this industry’s exports, especially this year and next. A long maintenance shutdown at an oil refinery in the spring of 2021 will significantly boost that industry’s export figures next year.
Next year the volume of exports is forecast to grow by 9.3 per cent. Exports will continue to benefit from the recovery of the international economy, while vaccine coverage will also allow for a strong recovery in tourism. Exports of services are forecast to grow by as much as 20 per cent next year. Similarly, service imports are growing almost as fast. In 2023 export growth is expected to slow to 3.4 per cent. The weakening of cost competitiveness this year and next will dampen the recovery of exports during the forecast period.
Investment is forecast to grow by 2.8 per cent this year. Growth is fostered by a significant increase in companies’ machinery and equipment investment. Residential construction is forecast to grow by slightly less than 3 per cent.
In 2022 investment growth will pick up to 3.4 per cent. Growth in residential construction will slow to about 2 per cent. Large investment projects in industry are reflected in particular in machinery and equipment investment, but also in solid growth in civil engineering for several years towards the end of the forecast. Industrial investment will also boost R&D investment, but its share of GDP will not rise significantly.
The labour market survived the corona crisis with less damage than expected: the unemployment rate measured by Statistics Finland rose by only one percentage point from 6.7 per cent. A significant number of service workers were nevertheless laid off. The number of employees is forecast to grow by about 44,000 this year. The number of those laid off will also fall as restrictions are eased. The growth of the labour force has been surprisingly positively, as a result of which the unemployment rate will remain almost unchanged this year. The employment rate is forecast to rise to an average of 72.1 per cent this year. The availability of skilled labour and the so-called labour shortage have become greater obstacles to employment growth than expected this year.
Next year employment will continue to rise but at a slower pace than this year. The unemployment rate will nevertheless fall to 7.0 per cent as labour force growth slows markedly. The employment rate is expected to improve to 72.9 per cent next year, as employment of 15-64 year olds increases while their numbers fall.
We forecast that the employment rate will rise to 73.2 per cent by 2023. The Marin government’s (old) employment rate target of 75 per cent will therefore not be met unless new, very significant employment measures are taken (it should still be noted that the labour force statistics have also been revised, so the old target is not entirely comparable). The goal has already been changed: the new target is 80,000 new jobs to strengthen public finances. There is still a long way to go before that goal can be reached.
Growth in real earnings and other income as well as employment will bolster private consumption this year and next. The decline in the savings rate will nevertheless have a more significant impact on income over the forecast period. A key factor reducing consumption has been the coronavirus pandemic and the constraints it causes. Restrictions will be phased out during the autumn, which will facilitate a recovery in consumption.
Private consumption is forecast to grow by 3.0 per cent this year and by 3.6 per cent next year, of which a significant part is the effect of growth carried over from the current year. At the same time, the aggregate savings rate of households and non-profit institutions serving households will fall from its high level reached in the exceptional year of 2020 towards a so-called normal level, and at the end of the forecast period the savings rate will be close to zero.
In 2023 private consumption is projected to grow by 1.8 per cent, slightly faster than real purchasing power growth. According to our forecast, the nominal earnings level will rise by 2.2 per cent this year and 2.5 per cent next year. In 2023 earnings will rise by 2.3 per cent.
Consumer prices are forecast to increase by 1.8 per cent this year. Inflation will be spurred this year by rising prices for alcohol and tobacco products, transport and housing. Hikes in energy prices will play a significant role. Next year the rise in consumer prices will slow slightly to 1.6 per cent. The share of housing in inflation is increasing but that of transportation is shrinking. In 2023 consumer prices will continue to rise by 1.4 per cent in our forecast, so the acceleration of inflation will be largely temporary.
The general government deficit will decline over the forecast period after the difficult corona year of 2020, but the decline will be slow. Last year the public sector deficit was still 5.4 per cent of GDP. Discretionary fiscal policy was strongly expansionary last year – some of the decisions made will also affect this year. This year’s general government deficit is projected to be 3.5 per cent of GDP while next year’s deficit will be only 2.5 per cent of GDP. The balance of public finances will improve as the effects of corona on economic growth as well as temporary measures taken to alleviate the crisis fade away.
The general government EDP debt-to-GDP ratio will increase over the forecast period. We forecast it will rise to 70.8 per cent this year. We forecast the EDP debt-to-GDP ratio will be 71.0 per cent next year and 71.9 per cent in 2023. In our baseline forecast, the EDP debt-to-GDP ratio will rise to 73.6 per cent of GDP by 2025. The central government’s budget balance will improve in the forecast years after last year’s decline. Social security funds will remain slightly in surplus. The actual development will nevertheless continue to be very sensitive to changes in the value of GDP. There are also big questions about whether the incumbent government will be able to implement other policy measures that will significantly increase the employment rate in addition to eliminating the so-called pension tube, i.e. the right of an elderly long-term unemployed person to receive additional days of unemployment security, on the basis of which earnings-related unemployment benefits can be paid until the person can receive an old-age pension. Another question is whether they will improve the financial position of the public sector. At the moment, both seem unlikely.
According to our forecast, the structural balance of public finances will take a turn for the better this year and next. For 2020, we estimate the structural deficit will be 4.2 per cent of GDP. The structural deficit is declining (in absolute terms) slowly, to 2.4 per cent of GDP in 2021 and still to 2.1 per cent of GDP in 2022.
As a result of the exceptional economic circumstances created by the coronavirus, the European Union has invoked the general escape clause of the EU’s Stability and Growth Pact. As a consequence, the rules are currently not constraining the immediate response of Member States to the crisis. Based on current information, it appears the rules will go back into force in 2023.
In the medium term, rule-based fiscal guidance is likely to resume. Based on the weak debt and deficit development in Etla’s public finance forecast, it is quite clear that Finland needs to adjust its fiscal policy in the medium term. The projected developments for 2020-2022 indicate an improvement in the structural balance, and the path should be continued towards the MTO, i.e. a level where the structural deficit does not exceed half a per cent of the output level.