This year is expected to be full of challenges both for Latvia’s, Europe's and the global economy. From approaching to recession, complications in various business sectors and risk to exhaust natural gas reserves up to more positive scenarios expecting food deflation and higher wages. Dainis Gašpuitis, SEB bank economist, shares his forecasts for 2023.
Global GDP – slightly above the benchmark of recession
2023 will be the year of high uncertainty and offer complicated and varying circumstances. Positive turning points will be more related to non-implementation of negative risks. Significant inflation, energy supply and new geopolitical turmoil will remain.
Global economy growth in 2023 will reach the lowest level of the recent years – 2,3% or slightly above 2%, which is used as the benchmark of global recession.
The aggressive increase in rates implemented by the central banks will create downward risks for the global economy. Most likely, maximum inflation point in the eurozone will be reached in December 2022. Inflation will subside towards the spring. During the period until June, inflation level in the USA will be approximately 4%, but in the eurozone approximately 7%. It will remain significantly above the goal set by the central bank – 2%.
Just like the European Union (EU) in general, economies of the Baltic States also move towards recession, although growth indicators for the entire year of 2023 are projected at minimum positive level, i.e., slightly above zero. The most serious threats are caused by the high inflation rates rapidly burning purchasing capacity of the households. Overall annual performance will be determined by the drop in economic activity at the beginning of the year, as well as recovery capacity in the second half of the year.
Companies must look at raising prices of their products
Depth of the approaching GDP fall will be determined by the extent of spread of drop in consumption to capital expenditures and companies. Reduction of problems in global supply chains is a positive signal. Improvements in offer of raw materials will allow the companies to cope with the weakening of economy, unless its too deep. Many companies also have had good opportunities to raise prices. Support programmes to shield residents from rising energy prices will help neutralise part of the increase of costs.
The projected downward risks are largely related to even higher energy prices or other economic consequences of the war escalation. For example, complete interruption of Russian gas cannot be ruled out this winter. This could cause broader austerity measures and lead to a more significant downturn.
At the moment, forecasts follow the mood, and they will be adjusted also in the spring. If the weather will turn out good, inflation will confirm signs of reduction and energy prices will not have any negative changes, look will be much more hopeful in a few months. At the moment, perspectives and mood are shadowed by uncertainty. If the beginning of next year will see trends going the negative way, forecasts will have to be adjusted downwards. Bill paying discipline will weaken and affect many companies. It is important for entrepreneurs to look towards the raising of prices.
Which sectors will do better, and which will do worse?
Export will see certain adjustments, and strong headwind is expected. The question is about the activity dropping rate in Europe? However, in general, a slight growth in export could remain.
Entrepreneurs which still work in the Russian market will face even more serious reputation and other risks. Negative impact of the Russian economy will grow.
At such differing levels of energy prices in Europe the critical factor will be competitiveness. ICT sector has good prospects of development. In the following months, volumes of manufacturing industry will fall, but situation should stabilise in the second half of the year.
The greatest challenge will be increase in activity in the construction sector, one of the sectors which has dragged economy below the zero level in the 3rd quarter of 2022. Construction is burdened by the growing rates and costs, as well as decline in demand, but the sector should be supported by the incoming EU funds.
Agriculture has good expectations, although not without difficulties. Challenging circumstances will surround the services aimed at consumption and trade, which will notice changes in residents’ habits. This will affect the segments with active and even growing consumption, but there will be also segments experiencing smaller crowds of consumers. This could affect more the entertainment and leisure sector. In the real estate sector, waiting mood will prevail for the upcoming months. As soon as clearer circumstances will be outlined, activity in the sector will renew rapidly.
Inflation to be determined by energy prices
The main question with regard to inflation perspectives is – where will the energy prices go? This will largely determine also further dynamic of food prices. As soon as the energy environment will allow for more stable assessment of dynamics of energy prices, this will be reflected also in food prices and elsewhere.
At the moment, reduction in prices of food raw materials is insufficient to be reflected in food prices if grocery stores. Favourable weather for harvest will strengthen the positive trends. And vice versa. Situation will be still affected by the war in Ukraine.
More stable vision of energy prices will allow to slow inflation in services sector, which is beginning to grow stronger and showing that we will keep feeling the subordinate price rising wave for some time.
2023 will begin with a very high inflation rates, which will gradually decrease afterwards. Average inflation rate in 2023 will be close to 10%. Certain months, especially in the other half of the year, could show deflation. However, its duration and amount cannot be projected. Possibly, it can appear in more explicit manner only in 2024.
What will happen to fuel prices?
Oil market has been tense in the autumn of 2022. However, concerns of recession, increase in primary rates and Chinese Covid-19 policy have resulted in downward pressure to oil prices.
Before the winter time, oil reserves were low, and situation in relation to diesel products is worse than back in 2008. Therefore, cold I quarter of 2023 can be very problematic.
New sanctions on oil and oil products import from Russia maintain uncertainty. Brent crude oil price will grow in the first half of 2023, but prices should decrease in the second half of the year.
Forecasts regarding the high oil prices are related to the low investments in oil and gas production during the last 10 years, resulting in limitations of supply in many parts of the world. Furthermore, growth in the increase of production of the US shale oil is slow. There are many signs that prices above USD 100 per barrel can become a norm. However, the main condition will remain success of global economy. The higher will be growth difficulties, the weaker will be demand and, consequently, lower oil prices.
It’s time to get used to expensive gas and electricity
Prices in natural gas contracts for 2023 –2024 have decreased by approximately 50%. However, prices of futures are 4–6 times higher than usual. The same thing applies to electricity prices, since natural gas bracket prices serve a benchmark of prices in major part of the European energy market.
Most likely, we will have to get used to the gas and electricity prices which are 3–7 times higher than before. Favourable beginning of the season, austerity measures and level of reserves have allowed to provide gas for this season.
But the coldest part of the winter is still to come, and gas prices will grow in the 1st quarter. The question is – how high will be demand and how high will these prices climb? Cold beginning of the year may lead to higher prices and lower reserves.
If the demand is high, ES natural gas reserves in April may drop to approximately 200 TWh, but, if the weather is warm and demand is lower, reserves will remain at the level of approximately 600 TWh. This is an important aspect for the next heating season. If the reserves will drop to 200 TWh in April 2023, there is a risk of insufficient reserves to avoid new stress and high prices in October.
We have uncertainty before us, and at least 12 months of “sellers’ market”, because competition to provide the EU natural gas reserves at satisfactory level by October 2023 has already begun.
Labour market seems to be tense
Shrinkage in economic activity in the 3rd quarter of 2022 was reflected also in slight increase in the unemployment rate reaching 6.9%. Labour market cools down, and increase in unemployment rate will continue. Trends could become stronger especially at the beginning of the year and then stabilise.
However, taking into account the fact that the year promises to be rather tense, entrepreneurs will be careful in hiring new staff. Therefore, possible improvements in the second part of the year could be minor. Due to uncertainty and high increase in costs.
Sectoral surveys show that demand for employees remain, although with a slightly downward trend. Level of vacancies is decreasing, but it is still sufficiently high. Impact of Russian sanctions does not manifest itself on a significant scale at the moment. There are companies which face challenges of the Russian market and have commenced optimisation of employees. More explicit trends could appear next year, when more sanctions will enter into effect, new sanctions will appear, as well as deficiencies of the current sanctions will be eliminated.
Think 7 times before dismiss someone
The good news is that the labour market does not show reasons for explicitly negative scenarios. More sudden changes may manifest themselves under the circumstances of energy crisis, which will be rather too short-term to affect long-term trends in the labour market.
Explicit shortage of employees remains in the entire Europe, and it will grow more acute every year. Employee is a value, therefore employers will think 7 times before dismissing an employee. Therefore, such a step will be taken only in emergency situations.
Cooling of labour market will allow slightly relieve the pressure related to increase in wages. However, it will remain.
Expected rate of job-seekers at the end of 2023 is 7.3%.
Distract attention with bonuses
Average salary in the 4th quarter of 2021 reached 1,336 euro, while the average gross salary in the 3rd quarter 2022 had reached 1,384 euro. Compared to the 3rd quarter 2021, the average salary increased by 82 euro or 6.3%.
Such a growth per year even amazed a little with its placidity. Both because of its lagging behind the neighbours (in Estonia – 8.1%, in Lithuania – 12.6%) and because of expected faster growth due to inflation. It seems that entrepreneurs do not bow to the pressure of employees to fully compensate growth in the cost of living.
End of the year is usually characterised by a rapid leap in wage, because this period is related to significant celebration which raises up the spirits. Bonuses and premiums are disbursed. This time, they will be supplemented by such bonuses aimed to compensate employees for inflation in short-term. To the extent possible. Disbursement of bonuses is a flexible instrument and may slightly distract attention from demands to increase wage.
Companies affected by sanctions to see harder times
Every employee and employer will have their own stories as to what will happen to wages in 2023. First of all, situation will be determined by the pace of economy, which will adjust the labour market and, consequently, wages.
At the moment, labour market forecasts are rather stable, although proportionate growth in unemployment rate is not expected. However, it should not affect significantly the wage increase dynamics.
Wages are saint, and optimisation of operations and dismissals of employees can be expected rather than touching the wages.
On hand, there will be also some employers seeking to strengthen the increase in wages to support their employees. On the other hand, there will be companies with limited possibilities to increase costs. However, the average wage will keep rising, which will be stimulated by both increase in minimum wage and pressure of employees.
Employees of the companies affected by sanctions, decline in demand and competitiveness or limitations of resources will see harder times. Energy crisis may complicate the situation for manufacturing industry and construction.
Most likely, increase in the average wage next year will also lag behind the average inflation rate. Situation will become more balanced towards the end of the year.
Consumption is more significant than the price level. In case of favourable circumstances and low energy consumption, impact of prices will be more limited. Whereas, in case of high demand for energy, rise in prices can be intensified, thus limiting consumption even more. Forecast of the growth rate of the average wage for 2023 is 7.8%.
