OECD Economic Outlook, Volume 2022 Issue 2

Lithuania

Growth is projected to slow to 2.5% in 2022 and 1.6% in 2023, before recovering to 2.0% in 2024. Lower growth in 2023 reflects higher inflation, negative confidence effects of Russia’s war of aggression against Ukraine and weaker external demand. Private consumption is negatively affected by higher unemployment and a contraction of real wages. Investment is underpinned by EU funds and the government’s multi-annual investment programme.

Fiscal policy support is helping households and firms to cope with rising energy prices. This support could be made more effective by moving from broad measures to more targeted support of vulnerable groups. In addition, this would enhance incentives for energy savings. Demand should also be restrained more to counter inflationary pressures. Structural reforms to bolster growth should focus on skills acquisition and better management of the many state and municipal‑owned enterprises.

The economy is slowing in face of continued headwinds

During 2022, domestic economic activity has declined, as private consumption and investment began to contract under the impact of increasing inflation and deteriorating consumer and business confidence. Exports have also been curbed by the war in Ukraine and slowing export market growth, but imports contracted more than exports, leading to continued expansion of real GDP. Job creation has continued unabated, contributing to a two percentage point fall in the unemployment rate over the past year, leaving it at 5% after the summer. During the same period, skills shortages remained prevalent and even doubled in the construction sector. These labour market dynamics have led to a near‑doubling of wage growth to 14%. Since January, the latter has contributed to a 4.6 percentage points rise in core inflation to nearly 12% in September. Together with higher energy and food prices, this nearly doubled headline inflation to 22.5%, before it came down by ½ percentage point in October.

Lithuania

1. Harmonised indices.

Source: OECD Main Economic Indicators database; and Eurostat, Harmonised Indices of Consumer Prices (HICPs).

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Lithuania: Demand, output and prices

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Trade will continue to suffer from the war in Ukraine. Prior to the war, Russia accounted for 12% and 11% of imports and exports, respectively. Energy supplies have largely been secured as Lithuania stopped importing gas and oil from Russia in spring 2022, replacing them with imported liquefied natural gas and a diversification of oil import sources. However, the trade balance is negatively affected by higher international energy and food prices, which will also continue to fuel inflationary pressures. Ukrainian refugees now amount to more than 2% of the population, temporarily adding to fiscal spending pressures, but are also helping relax labour shortages.

Fiscal stimulus is being gradually withdrawn

In 2022, the fiscal stance became expansionary as a revised draft budget allocated an additional 2% of GDP to support Ukrainian refugees (accounting for 0.6% of GDP) and to help households and firms weather the energy crisis. The latter includes compensation for energy price increases above 40%, support for vulnerable households via an increase in non-taxable income, an extension of means-tested heating compensation and higher pensions. The package supplements earlier measures, such as energy price caps, subsidies for energy efficiency and a strengthening of energy independence. In 2023, the fiscal stance will become less expensionary only once temporary measures expire, including price energy caps. Tighter fiscal policy is needed to reduce overall demand pressures and thus lower risks of prolonged inflationary pressures. Moreover, support could become more targeted and effective by replacing current measures with ones that provide support to groups that are most vulnerable to energy price shocks. This would also enhance general energy saving incentives. A broadly neutral fiscal stance is assumed in 2024.

Growth will remain restrained

Growth is projected to slow under the impact of high inflation, the negative confidence effects of the war in Ukraine, and continued slow export market growth. High inflation and a weaker labour market will erode real incomes. Slower demand will dampen business sector investment, although total investment will benefit from EU funds and the implementation of the government’s multi-year investment programme. Headline inflation will come down slowly as the effects of higher energy and food prices peter out and under the impact of higher euro area monetary policy rates. In addition, unemployment will increase throughout the projection period, leading to slower wage growth and thus service inflation. Downside risks to the projections hinge mainly on the evolution of the war in Ukraine and its impact on the external environment and energy supply. On the upside, a faster-than-expected labour market integration of Ukrainian refugees could alleviate labour market shortages and wage pressures sooner than projected.

Securing stronger growth

Population ageing will weigh on growth and public finances, necessitating structural reform to secure a better use of available resources. A priority in this respect is better management of the many state- and municipality-owned enterprises, subjecting such enterprises to the same legal, financial, and regulatory framework as private firms. Similarly, better skills acquisition is needed through the timely implementation of the newly introduced curricula for schools, including attainment targets for digital skills, and a strengthening of firm-based learning in vocational training in all sectors. This should be complemented by measures to facilitate faster labour market integration of Ukrainian refugees.