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Fitch: Baltic economies recover strongly; volatility a long-term challenge 19.02.2013

Feb 20 - Fitch Ratings says Estonia, Latvia and Lithuania's recovery from crisis in 2008-2009 to being the EU's fastest growing economies in 2011-2012 represents a remarkable European success story. Nonetheless, their open economies, high bank loan/deposit ratios and level of external debt, as well as a track record of macroeconomic volatility render their economies inherently volatile.

In the aftermath of the crisis, front-loaded austerity, economic flexibility, a painful process of internal devaluation and strong social cohesion allowed the Baltic states to rebalance their economies, improve competitiveness and return to growth. Strong economic growth averaging 4% in 2012, highlights their impressive resilience to the recession in the eurozone.

Fitch expects Latvia and Lithuania to join the euro in January 2014 and January 2015, respectively. We believe that euro adoption would be a net benefit to these small, open, flexible and largely euroised economies (which are already pegged to the euro) despite the cost of funding potential future eurozone bailouts.

The agency believes that the openness of the Baltic states on trade, labour and capital flows renders them structurally exposed to global shocks. We found that GDP and inflation volatility over the past 10 years rank among the highest in Europe. In the absence of nominal exchange rate flexibility, counter-cyclical fiscal policies and proactive banking supervision would help reduce downside risks from a re-occurrence of cyclical excesses and foster sustainable growth.

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