Estonia strategy overview

Full strategy  (0.3Mb) Approved 28  Jun 2006

Eesti Strateegia  (0.6Mb)

Summary of public comments  (0.1Mb)

Estonia continues to meet the conditions specified in Article 1 of the Agreement Establishing the Bank. Over the last 15 years Estonia has made remarkable progress in transition and it is one of the most advanced countries among the new EU member states. Some 80 per cent of economic activity is in the private sector, and price and trade liberalisation, enterprise privatisation and effective financial sector reforms have taken place. There is an open foreign trade regime and there are no major constraints to foreign investment. This focused strategy reflects the achievements of Estonia and its advanced stage of transition.

Economic performance

GDP growth during 2005 exceeded expectations, largely due to strong internal demand and a better than expected external environment. The economy grew by 9.8 per cent during 2005, with a peak of 11.1 per cent in the fourth quarter. Main drivers included technology sector exports and strong domestic demand fuelled by investment activity. The fiscal position remained strong as Estonia recorded another surplus of the general government balance (estimated at 1.5 per cent of GDP) and one of the lowest public debt ratio in the EU (at around 5 per cent of GDP) in 2005. Although it remains high at over 10 per cent of GDP in 2005, the current account deficit is decreasing on the back of accelerating export growth. Above Maastricht-level inflation led the government to postpone the target date for European Monetary Union (EMU) membership from the initially scheduled January 2007 to January 2008. The banking system is prudently managed and financial deepening continues. Frequent government changes have so far had limited impact on economic policy-making given universally accepted objective of early adoption of Euro.

Business environment

Since independence, Estonia has made significant progress in transition to a modern market economy and the country is now one of the most open and competitive economies in the world. The business environment is very dynamic and local banks and leasing companies are extending loans and leases to smaller companies, partially supported through credit lines from international financial institutions. Foreign ownership of the banking sector has led to the restructuring and recapitalization of the system, the introduction of a wider array of products and services and improved corporate governance and transparency.

Transition challenges

While acknowledging the significant progress made in Estonia, a few transition challenges remain and this strategy aims to address those challenges in order to further increase the competitiveness of the Estonian economy. The priority transition challenges for Estonia are as follows:

Infrastructure, Environment and Energy

Energy efficiency is not yet fully compliant with all EU energy regulations and renewable energy in particular needs further regulatory strengthening. In the energy sector, unbundling of Eesti Energia remains a challenge and market-driven management of energy has not yet been fully developed. Furthermore, restructuring of the oil-shale based power plants continues to be a significant challenge, not least from an environmental perspective. In infrastructure, private sector involvement remains limited.

Enterprise Sector

In general industry, remaining challenges relate to further stimulating enterprise development in the poorer regions of the country. In the support of further SME growth, there is a need for a broader range of financial instruments, especially equity and mezzanine capital.

As at 31 May 2006, the Bank had signed a cumulative total of 48 direct and 24 regional projects for Estonia with a total project cost of €1,182 million, including Bank financing of €470 million, or 40 per cent. The private/state sector portfolio ratio stood at 100%.

While new projects in 2005 and early 2006 have been slow to materialise, the Bank can continue to play a role over the strategy period by focusing selectively on areas where it is additional and where it can address the remaining transition challenges, particularly in providing equity, mezzanine and cross-border financing, supporting the emerging renewable energy sector, promoting public private partnerships, and strengthening corporate governance and good business practice.

Operational objectives

In addressing these transition challenges, the Bank’s activities in Estonia will be based on the following operational objectives:

• Support the development of renewable energy projects;
• Support the expansion of local companies, particularly in cross-border projects by providing long term risk capital (equity, structured debt);
• Promote SME and municipal financing and energy efficiency through financial intermediaries as well as directly with a broader selection of financial instruments, enhanced with EU, or other, donor support; and
• Support complex transactions across sectors, including public private partnerships, which would benefit from the Bank’s expertise in project structuring and mobilisation of co-financing.

Operational procedures

In accordance with this strategy, the Bank will continue to ensure that all EBRD operations in Estonia meet sound banking principles, have transition impact, are additional and are subject to the Bank’s Environmental Procedures incorporating, where appropriate, Environmental Action Plans.