Third quarter liveliness fails to give the expected boost to GDP growth

Although we have seen plenty of the first snow over the last few days, the recently published adjusted data on GDP growth have brought us back to summer. With the pandemic loosening its grip in the third quarter, gathering restrictions were eased and spending opportunities increased. Yet regardless of the renewed liveliness observed at shops and wider events, kind of resembling the merry maypole dancing, economic growth has decelerated.

Although the third quarter GDP growth figure has been revised upwards as compared to the flash estimate published a month ago, deceleration is still obvious. The quarterly rate stood at 0.6%, which is four times lower than in the second quarter. The above rebound in activity notwithstanding, the economic deceleration has some logical explanations.

One of the reasons for the poor results was household spending abroad. Travel has increased along with the lifting of restrictions, and, contrary to last year, it is no longer just local tourism, and spending outside Latvia has grown. Thus, although we did see a larger increase in private consumption in the third quarter, the positive effects materialised abroad, increasing imports and failing to contribute to the growth of the Latvian economy. This is also confirmed by the payment card statistics currently compiled and improved by Latvijas Banka on an experimental basis and data on passenger flights.

Another factor previously contributing to perkier growth and to a subsequent deceleration is the stocks of finished goods and raw materials. Changes in inventories provided a significant kick to GDP growth in the first half of the year. Such somersaults in the levels of inventories often suggest problems in pinning down the real figures for some other GDP components or even the GDP itself, as confirmed by several later data revisions (subsequent adjustments to earlier publications of preliminary statistics). This time, however, there was also an economic explanation: concerned over the production and supply disruptions and potentially rising future prices, many producers and traders stocked up on materials and finished products. Increases in inventories over the same period were also reported in Lithuania and Estonia. Warehouses were preferably kept full in the third quarter alike, but there was a lower need for sizeable replenishment, hence the contribution of changes in inventories was negative in the third quarter.

Other factors like higher construction costs (particularly, prices of building materials) and prices of equipment have joined the uncertainty caused by the pandemic, making investors think twice before making any new investment plans. Moreover, a clearer awareness of the fragility of the human capital brought about by the pandemic experiences and the persistent labour shortages have put an increasingly stronger focus on potential automation of processes. To that end, some good instruments stimulating investment are also offered by the European Union (EU) funds. The recently published data reveal a small drop in investment in the third quarter.

The fact that the exports of goods hit a new record in the third quarter has been public knowledge for already quite long. Due to the rocketing prices, however, the increase in real volume was much more moderate compared to that in the monetary value. At the same time, services exports (mainly tourism and transport services) are still considerably below the pre-pandemic level. Like in the case of exports, the value of imports this year was also significantly boosted by the rising prices, whereas the real imports of goods and services have grown more modestly.

As to future growth, the "set of concern factors" remains similar to what we have seen before, yet the flavour is slightly different: another new variant of Covid-19 with low clarity as to the effectiveness of the protection provided by the existing vaccines, reignited tensions on the Belarus–EU borders, approaching Parliamentary elections, strong effects of various prices rises on production costs and household expenditure etc. All this causes elevated uncertainty as well as inevitable subsequent adjustments to GDP data and projections. Publication of the revised forecasts by Latvijas Banka is scheduled quite soon, on 17 December.