OECD Economic Outlook, Volume 2019 Issue 1

Lithuania

GDP growth is projected to slow gradually as investment eases towards more sustainable levels and the external sector remains weak. Labour supply constraints also limit growth. Tight labour market conditions and robust domestic demand will continue to put pressures on underlying inflation. Wage increases above productivity growth will sustain consumption and reduce income inequalities, but might negatively affect competitiveness.

The government budget will remain in a small surplus in 2019-20, safeguarding the healthy fiscal position. Reforms to enhance productivity and make growth more inclusive should aim to further improve the business environment, including by lowering administrative burdens, and helping individuals to attain their productive potential by equipping them with relevant skills. Stronger work-based training at the vocational education level and effective up-skilling and re-skilling programmes for adults are essential.

Economic growth is driven by domestic demand

The economy is growing at a solid pace, albeit below recent highs. Private consumption continues to be supported by rapidly rising wages in excess of productivity growth and expanding credit. Income‑boosting measures, such as increases in the non-taxable income threshold and social benefits, have fuelled consumption. Consumer confidence strengthened in early 2019. Investment growth remains firm, even if business confidence has somewhat weakened, amid high capacity utilisation and a faster implementation of EU‑funded projects. Buoyant domestic demand has offset partly the drag on growth from external weakness. Headline inflation has edged down, helped by lower oil prices. However, skills shortages and falling unemployment, along with robust domestic demand, continue to put pressures on underlying inflation, especially in services sectors.

Economic growth and credit growth: Lithuania

Source: OECD Economic Outlook 105 database; and European Central Bank.

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Lithuania: Demand, output and prices

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Efforts to raise productivity and equality need to continue

The ECB monetary policy stance remains accommodative and credit to the private sector is growing, driven by strong lending to households. House price growth has moderated somewhat but wide regional differences remain, with prices outside the capital region still growing at a robust pace. Private sector indebtedness and house prices are still below their historical peaks, mitigating financial stability risks. The authorities need to continue using prudential rules in a pro-active manner to avert the emergence of financial imbalances.

After a mildly expansionary fiscal stance in the past two years aimed at boosting productivity and fighting income inequality, a broadly neutral fiscal stance is assumed over the period 2019-2020. The budgetary cost of additional measures to reduce poverty is to be partly offset by revenue-enhancing improvements in tax administration as well as rises in some taxes, including an increase in excise duties on tobacco products.

Fostering higher productivity and inclusiveness requires additional reforms to ensure that the education system provides the right skills to meet evolving labour market demands and reduce large skills mismatches. Enhancing the attractiveness and labour-market relevance of vocational education, including through more work‑based learning, is vital in this regard, as are up-skilling and re-skilling programmes for adults that ensure strong and transferable skills and competencies. Low-skilled workers would further benefit from a reduction in the high labour tax burden, making them more attractive to employers. Reforms should also promote firm dynamism by simplifying bankruptcy procedures and reduce informality by lowering the administrative burden on business.

Growth is projected to ease

Output growth is set to slow to 2½ per cent by 2020. Investment growth should moderate, after the surge in 2017‑18, as the flows of EU funds return to more normal levels and global uncertainty impacts business decisions. Domestic demand will further be influenced by a shrinking labour force, constraining consumption growth. Weak external demand will continue to hold back exports. The unemployment rate is set to hover at around 6% in 2019‑20. Underlying inflation will drift up as labour market conditions remain tight. A weaker than anticipated growth in Lithuania’s main EU trade partners could dent investment and exports. Labour shortages are another important downside risk as they could limit employment growth more than anticipated and may lead to faster wage increases that could harm export performance. On the other hand, structural reforms could result in stronger productivity and output growth.