TCS Daily


The Year of Living Competitively

By Ugnius Trumpa - May 24, 2005 12:00 AM

Editor's note: This is the first in a series of articles on how new EU member states are doing one year after accession.

It is not easy to evaluate the impact of the first 12 months of the membership of the EU for a couple of reasons. For one thing, the story of Lithuania and the EU began long before the country, together with nine other new members, finally joined the Union in May 2004. Ever since achieving the status of a candidate country, in 1999, Lithuania has taken gradual steps to align its political and economic policies with those of the EU.

Lithuania's economic integration into the EU arguably began as early as 1995, when the Associated Membership Treaty was signed and the participating countries adopted a free trade regime. Also, once the negotiations for full EU membership started, Lithuania began to gradually harmonize its laws with the EU's acquis communautaire, and so simplified and expanded economic relations with the countries of EU-15. Lithuanian membership in the WTO also contributed to the country's economic growth and to the development of closer ties with the EU member states.

Also, it is necessary to consider the impact the Russian crisis had on the Lithuanian economy. Most importantly, it forced Lithuanian companies to look for export markets in the West, especially among the EU countries and those aspiring to gain membership, and so changed the Lithuanian trade geography as well as the Lithuania-EU trade balance. This all happened way before actual EU integration, which was finalized with the signed treaty and the juridical membership day on 1 May 2004. For this reason, it's tough to distinguish between the general changes that took place over the last decade or so and the ones that happened over the last 12 months.

As a member of the EU, Lithuania is eagerly harmonizing its legal acts with the acquis and is diligently adopting European directives into the Lithuanian legal system. Some would say, too eagerly. Some sections, stated as recommendations in the directives, are being treated and adopted as requirements by the Lithuanian government. On the other hand, the participation of the Lithuanians during the directive drafting, proposal submitting, and decision making stages is still very limited, and this is so mostly due to an inactivity from the Lithuanian government's side rather than the lack of access to the processes in Brussels.

Some more - both positive and negative - effects of EU-membership can also be identified:

Trade: It is clear that the movement of goods between the other EU members and Lithuania has become noticeably easier and now takes significantly less time. Membership also opened EU markets for some sensitive products, which before were exempt from the free trade agreements, for instance agricultural products. This had a two-fold effect: procurement prices increased and it became clear that Lithuanian companies potentially can export to the EU much more than they are able due to their current capacities. EU subsidies for external export of agricultural and other goods also contributed to the latter phenomenon.

Lithuanian companies also started providing services and investing in production in the other EU countries and the second wave candidates, such as Bulgaria and Romania. Statistics suggest that in 2004 the investment of Lithuanian companies abroad increased by two-thirds, while the investments in EU countries almost doubled. The latter is expected to double once again in 2005.

Prices: There is a general agreement among the Lithuanian people, and most of its politicians, that EU membership has caused a rapid increase in prices. In fact, the impact of membership on prices is not that direct, nor is it very uniform: while it indeed caused some increase in prices of certain goods, it was also a major factor in lowering the prices of others. As a result, annual inflation, although slightly higher than the year before, was, at 3.3 percent, still rather modest, and still the lowest among the Baltic Sates. Overall, it was more a result of greater household earnings and higher energy prices than the EU membership. There was a change in import prices, but only with the countries with which Lithuanian had to renounce its former free trade agreements, such as Ukraine. However, that did not have much impact on trade volumes and prices.

The psychological impact of EU membership on prices should also be noted. People, fearing higher prices, were tempted to spend their money before accession. That increased levels of consumption and possibly also prices. That may be why the highest levels of inflation were noticed in May. Economists are expecting this scenario to repeat itself prior to the introduction of the euro.

Labor: EU membership also opened up the borders (or, in some cases, simplified the procedures) for those seeking employment in other member states. This significantly increased the migrant flow westwards and/or simplified the legalization of those workers who were employed in one of these countries prior to accession. This work force migration has two significant effects on the Lithuanian economy. First, it gives people who were not able to find jobs in Lithuania a broader geographical scope, and, consequently, more opportunities find word somewhere else. Moreover, much of the money earned abroad is often sent home and/or spent at home, thus contributing to the growth of the Lithuanian economy.

On the other hand, worker emigration complicates the Lithuanian labor market. Business executives complain of a lack of a qualified labor force. And economists point to growing labor costs and a decrease in the international competitive advantage Lithuania possessed due to its low labor costs. According to the statistics, between 200,000 and 300,000 Lithuanians, representing some 8 percent of the population, are currently working abroad, and more are joining these ranks every day.

The lack of qualified labor is causing salaries to grow rapidly. Official statistics shows that the monthly wage has increased by 8 percent over the last year. Similar growth rates are expected in the coming three years. This is a positive development since it helps to raise standards of living. Currently, Lithuania's GDP per capita still makes up only 46 percent of the EU-15 average. However, it is a significant improvement if compared to 27.8 percent in 1997.

Informal Economy: Many expected that with the membership in the Union, Lithuania's shadow economy would decrease. However, this has not proved to be true. Membership has instead arguably contributed to a growth in the shadow economy, and most notably, contraband, due to tax harmonization. Excise duty, in particular, has become one of the major contributors fuelling the illegal trade in cigarettes and oil. Even if Lithuania negotiated a transition period for the excise tax, some of the excise duties are already greater than the EU-established minimum tariffs.

So even if Lithuania's excise duty for tobacco is still one of the lowest among the EU countries, the excise duty in Russia is still 9 times smaller: that alone is a good enough incentive for contraband. It is not surprising, then, that Lithuania's contraband rates of 2004 have exceeded the last 15 years' (the years since gaining independence from the USSR) records.

Ugnius Trumpa is President of the Lithuanian Free Market Institute; Monika Kacinskiene is a Policy Analyst with the LFMI


 

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