Meri Obstbaum, Bank of Finland, 2.10.2015

1. Unrestricted
Bank of Finland
Finnish economy: Success
and challenges
Meri Obstbaum
2.10.2015 1

2. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Facts about the Finnish economy
 13th largest of the 28 EU countries
– 5.5m inhabitants
– GDP per capita ≈ Western European average
 Regional differences large
– Greater Helsinki area:
 ¼ of population
 ⅓ of GDP
 Nordic model
– Comprehensive welfare state: generous transfers, high taxes
– Strong labor unions and employer organizations
– Small income disparities
– High female participation in labor force
2Meri Obstbaum2.10.2015

3. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Finland as part of international
economy
 Open economy
– Exports/GDP ≈ 40 %
 Direction of foreign trade:
– Most important trading partners: Germany, Sweden, Russia
– Share of EU countries ≈ 60%, share of euro area countries ≈ 35%
 International specialization:
– Paper and wood products
– Metal products
 Member of EU since 1995
 One of the original 11 euro countries (since 1999)
3Meri Obstbaum2.10.2015

4. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
From top-performing advanced
economy to growth laggard
2.10.2015 Meri Obstbaum 4
Source: IMF

5. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Factors behind exceptionally good
performance in 1995-2007
 Investment in human capital / education system
– Universities’ focus in engineering starting in 1960’s/1970’s
 Recovery from exceptionally deep depression
– Export-led growth strategy
– Continued investment in R&D and education
– Strong depreciation of the Finnish Markka
– Cuts in labor costs and corporate taxes
– Structural change – reallocation of resources
 Growth of ICT sector
– Framework conditions
 EU accession
– Fiscal discipline / financial conditions / consolidation
2.10.2015 Meri Obstbaum 5

6. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
0
10
20
30
40
50
60
0
2
4
6
8
10
12
14
16
18
1985 1990 1995 2000 2005 2010
Unemployment rate (left scale)
Central government debt (right scale)
% % of GDP
Sources: European Commission and Statistics Finland. 31406
Recovery from depression of early 1990s
- At its time, the depression was the worst experienced by any advanced economy after WWII.
6Meri Obstbaum2.10.2015

7. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Industry-led growth
2.10.2015 Meri Obstbaum 7
50
100
150
200
250
1990 1995 2000 2005 2010
Production, 1990=100
Primary production Industry
Construction Industry excl. electrical and electronics industry
Services

8. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Strong export performance reflected in
external balance
-4
-2
0
2
4
6
8
10
1995 2000 2005 2010
Source: Statistics Finland
Current account, % of GDP
2.10.2015 Meri Obstbaum 8

9. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Structural change in manufacturing
2.10.2015 Meri Obstbaum 9
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1975 1980 1985 1990 1995 2000 2005 2010
Manufacturing, % of gross value added
Forest industry Chemical industry
Metal industry excl.electrical and electronics industry Electrical and electronics industry
Rest of manufacturing

10. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Period of low growth – what happened?
 Unique combination of cyclical and structural shocks
– Financial crisis – foreign demand shock
– No role for shocks originating from the financial sector
– Electrical and electronics industry, Forest industry
– Russia
 Population ageing
– Working age population (15-64) shrinking since 2011
– Increase in age-related public expenditure
 Leading to: low productivity, low investments
2.10.2015 Meri Obstbaum 10

11. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Industry-led decline
2.10.2015 Meri Obstbaum 11
50
100
150
200
250
1990 1995 2000 2005 2010
Production, 1990=100
Primary production Industry
Construction Industry excl. electrical and electronics industry
Services

12. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Weak export performance
- also outside electronics and forest industries
-20
-10
0
10
20
30
40
50
60
70
Finland
Luxembourg
Ireland
Austria
Frnace
Italy
Slovenia
Belgium
Greece
Germany
Netherlands
Malta
Portugal
Cyprus
Spain
Slovakia
Estonia
Latvia
Lithuania
Share of electronic and electric appliances and forest industry products
Sources: OECD, Eurostat and Customs.
%
Value of goods exports, change between 2008 and 2013
31607
12Meri Obstbaum2.10.2015

13. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Cost competitiveness weakened
90
95
100
105
110
115
120
1999 2001 2003 2005 2007 2009 2011 2013 2015
Realised Based on Commission forecasts (May 2015)
Index, 1999 = 100
Sources: European Commission, Statistics Finland, and BOF calculations.
27664
Whole economy, Finland vs.
average of trading partners
Relative unit labour costs
13Meri Obstbaum2.10.2015

14. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
A structural public deficit has emerged
100
125
150
175
200
225
250
40
50
60
70
80
90
100
1999 2001 2003 2005 2007 2009 2011 2013
Central and local government expenditure* (left scale)
Central and local government income* (left scale)
GDP (right scale)
Bill EUR
*) Consolidated.
Source: Statistics Finland.
27749
14Meri Obstbaum2.10.2015

15. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Current economic outlook and policy
15Meri Obstbaum2.10.2015

16. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
No quick recovery expected
- growth falls further behind euro area growth
16Meri Obstbaum2.10.2015
90
95
100
105
2008 2010 2012 2014 2016
Finland Euro area
Volume, index, 2008Q1 = 100
Forecasts: Bank of Finland (Finland) and ECB (euro area).
Sources: Eurostat, Bank of Finland, and ECB. 31729
GDP

17. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Finnish economic indicators still mostly weak:
Especially in the labor market
17Meri Obstbaum2.10.2015

18. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Long-term growth prospects also weak
2.10.2015 Meri Obstbaum 18
0.0 %
0.2 %
0.4 %
0.6 %
0.8 %
1.0 %
1.2 %
1.4 %
2005-2014 2015-2024 2024-2035
Economic growth in Finland 2005-2035
0,8 % 1,3 %1,0 %
Source: Bank of Finland, long-term growth projection

19. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Demographics will continue to put
pressure on public finances
Old-age dependency ratio
(Population aged over 64 per population aged 15–64)
0
10
20
30
40
50
60
1950 1960 1970 1980 1990 2000 2010 2020 2030 2040 2050
Suomi Eurooppa USA
Yli 64-vuotiaiden osuus yli 15–64 -vuotiaista.
Lähde: YK.
Vanhushuoltosuhde
%
Source: United Nations.
Finland
Europe
USA
19Meri Obstbaum2.10.2015

20. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Fundamentals remain strong
- macroeconomic situation weak
Strengths
 Reliable legal system
 Infrastructure
 Education system
 Innovation potential
 Healthy banking sector
 Relatively small stock of
public debt (60% of GDP)
Weaknesses
 Erosion of industrial base:
electronics industry
(paper industry)
 Cost competitiveness
 Decline of working-age
population since 2011
 Recent problems in
Russian economy
 Long-term unemployment
– deterioration of skills
2.10.2015 Meri Obstbaum 20

21. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
-6 -3 0 3 6 9 12
Greece
Romania
Estonia
Latvia
Lithuania
Ireland
Portugal
Malta
Czech Republic
Italy
Slovakia
Spain
Poland
Cyprus
Slovenia
Hungary
Germany
France
Austria
Netherlands
United Kingdom
Belgium
Luxembourg
Denmark
Bulgaria
Sweden
Finland
Source: European Commission.
BKT-suhteen muutos vuodesta 2008 vuoteen 2014, prosenttiyksikköä
27795
Fiscal policy has been eased since 2008
Fiscal policy
eased ← │→ tightened
General government structural balance / GDP,
change between 2008 and 2014, percentage points
21Meri Obstbaum2.10.2015

22. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Lower interest rate levels transmitted to
households and firms
1
2
3
4
5
6
2008 2009 2010 2011 2012 2013 2014 2015
Finland Euro area
%
Source: ECB. 27736
Average interest rate on new housing loans
22Meri Obstbaum2.10.2015

23. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Policy action needed in several fronts
 Structural reforms that increase potential output and
improve sustainability of public finances
– Pension system (reform agreement exists)
– Social and health services overhaul
– Remove barriers to competition
– Supply of housing
 Halting the increase in public debt
 Unit labor costs to grow less than in trading partners
for several years
23Meri Obstbaum2.10.2015

24. Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted
Summing up
 More than 10 years of higher than average growth, following
strong recovery from the deep depression of early 90’s
 Combination of cyclical and structural shocks turned Finland into
one of the worst performing advanced economies after 2008
 Economic fundamentals remain strong, but macroeconomy is
weak
 Monetary and fiscal policies have been expansionary and
competitiveness has stopped deteriorating, but much remains to
be done
 Policy action should focus on structural reforms, fiscal
consolidation and improving cost competitiveness
2.10.2015 Meri Obstbaum 24