Lithuania in the EU: challenges ahead

Daniel GrosCEPS Director

Nature of challenges

• Short term: achieve budget balances, control inflation

euro area membership.• Long term: increase savings, improve

educational standards, improve quality of administration

=> Higher growth potential, control of old age expenditure in efficient way, regain trust.

Background material for longer term challenges

• Quality of governance• Capital formation, quantity and quality• Human capital formation• Labour markets important?

Governance

• On quality of regulation and efficiency of administration Lithuania = Poland, Latvia.

• But worse on corruption and lagging behind euro area average

• Little improvement over last years.

“Corruption and hypocrisy ought not to be inevitable products of democracy,

as they undoubtedly are today”(Mahatma Gandhi)

Source: WGI 2010, World Bank

“Administration covers the surface of society with a network of small complicated rules, minute and

uniform, through which the most original minds and the most energetic characters cannot penetrate”

(Alexis de Toqueville)

Source: WGI 2010, World Bank

“The only thing that saves us from the bureaucracy is its inefficiency.”

(E. J. McCarthy)

Source: WGI 2010, World Bank

Lithuania: little improvement in Governance indicators since 2002/3

Source: WGI 2010, World Bank

Evolution of GIs over the last decade: Lithuania, Estonia and Eurozone

Source: WGI 2010, World Bank

Building the future

• Without adequate domestic savings investment has to be financed by international capital, which is fickle (boom bust cycles).

• Moreover, debt service reduces national income.

• Savings in Lithuania not sufficient to finance investment needed for rapid convergence (and below peers).

Source: AMECO DATABASE

National savings insufficient to finance growth (but post crisis rebound)

... below the Euro Zone level until recently

Source: AMECO DATABASE

Where can the government save?

• Higher public savings would help, but where to cut?

• Pensions are an obvious target with plans to increase legal pension age.

• But will this be possible given state of health of population? (Healthy life expectancy only about 51 years.)

Low healthy life expectancy limits room for effective pension reform

Male at birth Female at birth

Male at 65 Female at 65

Lithuania 51.2 54.3 5.1 4.3

Estonia 48.0 52.2 3.4 3.4

Sweden 64.2 63.1 10.5 10.9

France 62.0 64.3 8.2 9.4

Low healthy life expectancy limits room for effective pension reform

Male at birth = likely limit for effective retirement age

Male at 65 = indicator of healthcare cost for elderly

Lithuania 51.2 5.1

Estonia 48.0 3.4

Sweden 64.2 10.5

France 62.0 8.2

Investment: quantity and quality

• Overall investment rate appears satisfactory, but too much in construction, too little in intangibles (modern economy).

• Quality of education mediocre.

Source: INNODRIVE

A sustained level of investment (gross fixed capital formation + intangibles)

Source: INNODRIVE

...but little in what is needed for innovation

Quality of human capital formation mediocre

Source: OECD

Labour market reforms?

• Importance difficult to judge since cyclical swings were so large.

• Upgrading of population has helped to maintain employment despite bust.

Education and employment: what has improved since Lisbon in

Lithuania? Share of population* Employment rates

2001 2010 Change 2001 2010 Change

Below upper secondary 16.2 8.6 -7.6 39.8 30.2 -9.6

Upper secondary 62.0 61.2 -0.9 64.8 58.9 -5.9

Tertiary 21.7 30.2 8.4 84 85.4 1.4Overall 64.9 64.4 -0.5

Source: Eurostat

* aged 20-64

Fundamental problem of political system

• Popular trust in national political institutions abysmally low (negative record among EU-27).

• Negative trend for long time.• Only EU institutions still trusted.

Trust in Lithuania:National VS European Parliament

Trust in Lithuania:National Government VS European Commission

Trust in parliament: EU versus LIT

Lithuanian and European trust in their national governments