The Second Quarter GDP growth rapid, but is it here to stay?

The unexpectedly rapid industrial growth in June (4.1% over one month), as well as the reasonably good trade results, if considered against the background of the drops of previous months, pointed that the second quarter GDP has grown by leaps and bounds. This is supported by the flash estimate of Latvian GDP published today. The Central Statistical Bureau data indicate that in one quarter GDP has grown by 2.2% (seasonally adjusted data), and the annual rate of growth has reached 5.3%. Whether this might be one of the most rapid quarterly growth rates in the European Union we will find out on 16 August when Eurostat publishes the results on its website.

A rapid rise in GDP does not mean a high level: the Latvian GDP per capita is only a little more than one half of the EU average. Yet a rise in GDP signals several positive processes: entrepreneurs are getting larger shares of the market, financial results have improved, tax revenue is growing, and new jobs are appearing. The changes in the number of the employed have pointed upward for quite a while now, and that is a very important piece of news under the still persisting conditions of high unemployment.

In breakdown by sector, industry posted very good results in the second quarter as did transport and trade. Construction, previously impeded by the unfavourable weather conditions, also did better than in the first quarter. The financial results probably improved in the banking sector as well. The changes in VAT collection, which, because of the base effect, had a negative impact on GDP in the first quarter, promoted its growth in the second quarter.  This impact will apparently later be recalculated and squared.

Hereby the list of good news items is exhausted and we have to consider the rather grim realities of global economic development. Because of those we must emphasize: this is hardly the moment to get overexcited about the second quarter growth indicators and give in to too much optimism, particularly when planning next year's budget. The stimulation measures abroad are being gradually exhausted, the economies increasingly suffering under their debt burdens experience falling credit ratings, and it is proving impossible to get their growth off ground. Although the European Central Bank yesterday announced its intention to buy euro area securities and the Great Seven promised to lend its support to ensure financial stability in the euro area and the US, it is amply clear that a substantial drop in foreign demand is to be expected. If the Latvian exporters have adjusted to the hardships by expanding their markets (as is the case), spread their risks and improved production efficiency, then there is reason for hope that they will be able to maintain the trend of growing industrial output by conquering the market shares of their competitors. It is unlikely, however, that the Latvian economy will be able to resist global trends for long and it can be expected that exports will slow down in the second half of the year. A drop in GDP is also possible in some of the subsequent quarters.

The situation is replete with uncertainty. For that reason, it is paramount not to rely on a rapid GDP growth as a sustainable trend and not to put off cutting excess public spending.  The financing reserved for unforeseen expenditure in the state budget has been close to spent, which can have an unpleasant consequences should an emergency arise. Undue optimism should be avoided in drafting the 2012 budget as well.