The Republic of Lithuania
Second Review Under the Stand-By Arrangement-Staff Report; News Brief on the Executive Board Discussion; and Statement by the Executive Director for the Republic of Lithuania

This paper evaluates the Republic of Lithuania’s Second Review Under the Stand-By Arrangement. Program implementation has been generally good. Macroeconomic performance was better than expected in 2001: real GDP grew by 5.9 percent, driven by buoyant exports and investment, while the impact of the slowdown in the European Union was limited and largely offset by strong demand from Commonwealth of Independent States (CIS) countries. The macroeconomic outlook for 2002 envisages faster growth and a slightly higher current account deficit, while inflation, wage, and employment projections remain largely unchanged.

Abstract

This paper evaluates the Republic of Lithuania’s Second Review Under the Stand-By Arrangement. Program implementation has been generally good. Macroeconomic performance was better than expected in 2001: real GDP grew by 5.9 percent, driven by buoyant exports and investment, while the impact of the slowdown in the European Union was limited and largely offset by strong demand from Commonwealth of Independent States (CIS) countries. The macroeconomic outlook for 2002 envisages faster growth and a slightly higher current account deficit, while inflation, wage, and employment projections remain largely unchanged.

I. Introduction

1. Program implementation has been good and all performance criteria for end-December 2001 and end-March 2002 were met (text Table 1 and Tables 1-3). The center- left government led by Prime Minister Brazauskas commands a majority in parliament (Seimas) and is able to gamer support for needed measures, especially given the broad political consensus in favor of EU and NATO accessions. Political pressures may emerge, however, in the run-up to the December presidential elections, complicating the preparation of the 2003 budget.

Text Table 1.

Lithuania: Selected Macroeconomic Indicators, 1997-2002

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Sources: Lithuanian authorities; and Fund staff estimates.
Table 1.

Lithuania: Performance Criteria for Stand-By Arrangement, 2001-02 1/

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Source: Lithuanian authorities; and Fund staff estimates.

Definitions and exclusions are presented in the Technical Memorandum of Understanding.

Based on latest available data.

This performance criterion was modified on February 2, 2002 consistent with TMU paragraph 2.

This is consistent with the statutorily imposed required reserve ratio of 6 percent, because, pursuant lo paragraph 5 of the TMU, the required reserve ratio envisaged under the program allows for a 2 percentage point variation from the statutorily imposed required reserve ratio.

Table 2.

Lithuania: Quantitative Benchmarks for Stand-By Arrangement, 2001-02

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Source: Ministry of Finance; and Fund staff estimates.

A government decision to clear pharmaceutical arrears was considered as clearance of arrears under the program.

Table 3.

Lithuania; Structural Benchmarks for Stand-By Arrangement, 2001-02

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Source: Lithuanian authorities.

II. Recent Developments and Performance Under the Program

A. Macroeconomic Developments

2. Macroeconomic performance was better than expected in 2001 (text Table 1 and Table 4)1. Real GDP grew by 5.9 percent, driven by buoyant exports and investment,2 while the impact of the slowdown in the EU was limited and largely offset by strong demand from CIS countries (Figures 2 and 3). Further fiscal consolidation—with the general government deficit declining to 1.9 percent of GDP3 (from 2.8 percent in 2000)—together with sluggish consumption growth, attributable to wage restraint and a high unemployment rate (about 12 percent), led to a narrowing in the external current account deficit to 4.8 percent of GDP in 2001 from 6.0 percent in 2000 (Figure 4 and Table 5). Over 75 percent of the current account deficit was financed by FDI and borrowing costs declined sharply, entailing a marginal increase of net external debt to 26.4 percent of GDP. External liquidity indicators improved (Table 6), as gross official reserves reached $1,669 million by year-end, increasing coverage of short-term debt to 58 percent (from 49 percent at end-2000). Sluggish private consumption and lower oil prices helped limit CPI inflation to 1.3 percent.

Table 4.

Lithuania: Selected Macroeconomic Indicators, 1998-2002

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Sources: Lithuanian authorities; and Fund staff estimates and projections.

Registered unemployment, end-of-period.

Gross official reserves reported here differ from the monetary table due to valuation differences.

External liabilities minus foreign equity investment in Lithuania.

CPI-based, trade-weighted teal effective exchange rate against 21 major trading partners in 1999.

December 2000 is adjusted far reclassification of LTL 270 million of DMB’s claims on private sector which were removed from balance sheets in July 2000. Also, July 2001 numbers have been adjusted by LTL 785 million of reclassified assets.

Table 5.

Lithuania: Balance of Payments, 1998-2002

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Source: Data provided by the Lithuanian authorities; and staff estimates and projections.

“-” indicates repurchase; “+” indicates purchases.

Gross official reserves reported here differ from the monetary survey due to valuation differences.

External liabilities minus foreign equity investment.

Total external liabilities Minus total external assets excluding foreign direct investment, equity investment and reserve assets.

Debt service comprises interest and repayment on external loans, and internal and repayment on debt securities.

Oil price for 2002-07 are based on WEO baseline projections.

Table 6.

Lithuania: Indicators of External and Financial Vulnerability, 1999-2002

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Sources: Bank of Lithuania, Ministry of Finance, Department of Statistics, National Stock Exchange of Lithuania, Bloomberg, Baltic News Service, and Information Notice system.

Public and publicly guaranteed debt, excluding short-term debt of SoDra and nonguaranteed debt of municipalities.

December 2000 is adjusted for LTL. 270 million of DMB’a claims on private sector, which were removed from balance sheets, in July 2000. Also, July 2001 numbers have been adjusted by LTL 785 million of reclassified assets.

Gross official reserves reported here differ from tile monetary survey due to valuation differences.

On a remaining maturity basis.

Deposit money banks.

External liabilities minus equity investment in Lithuania.

Total external liabilities minus total external assets, excluding foreign direct investment, equity investment and reserve assets.

Total short-term liabilities minus total short-term assets, on an original maturity basis.

Debt service comprises interest and repayment on external loans, and interest and repayment on debt securities.

CPI-based REER against the 21 major trading partners in 1999.

LITIN-G price index, calculated for all issues that have been quoted in the current trading list in the past three months, excluding treasury bills and shares of investment companies.

S&P investment grade rating.

3. These positive trends continued in early 2002. Real GDP grew by 4.1 percent in the first quarter, despite temporary disruptions to crude oil supplies. Non-energy exports grew by 9 percent year-on-year in U.S. dollar terms, with a rebound in exports to the EU. Public finances continued to improve, and the general government deficit for the first quarter of 2002 was LTL 106 million, LTL 277 million lower than programmed (Table 1).4 As in late 2001, revenue performance was stronger than projected, owing to better-than-expected value added tax (VAT) and natural resources tax receipts, as well as improved administration, especially customs. By contrast, expenditure was lower than programmed, due to lower expenditure on goods and services and the late approval of the public investment program. The CPI was unchanged over the first 4 months of 2002 and the unemployment rate declined to 11.8 percent by end-April.

4. Sound economic fundamentals and fiscal consolidation bolstered confidence in the currency board arrangement (CBA), facilitating a smooth repegging (Box 1). Financial markets received the change well, as evidenced by a further decline in eurobond spreads and the ability to borrow at longer maturities (Figure 1).5 Broad money grew by 21 percent year-on-year at end-March, reflecting increased money demand (Table 8). Credit to the private sector grew at the same rate, owing to increased business confidence, declining interest rates, and the dynamism of recently privatized banks (Figure 5). Banking system vulnerability indicators remained sound at end-March, while profitability has improved recently (Table 9).

Figure 1.