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Does overheating threaten the Belarusian economy?

Analysts of the Belarusian Institute of Strategic Research Alexey Bykov, Doctor of Economics, Professor, Head of the Department of Economics and Management of the Belarusian State University of Economics, and Irina Ivanovskaya, Candidate of Economics, Associate Professor, talk about important markers of the country's development.

The successes of the Belarusian economy over the past few months are undeniable: GDP, industrial production, exports, investments, household incomes, retail and wholesale trade turnover are growing. A good external environment and a soft monetary policy have done their job.

But how resilient is well-being? The abundance of money circulating in the country (the statistics of the National Bank confirms a significant increase in the money supply) increases the risks of an inflationary spiral. Are there prerequisites?

For reference
The overheating of the economy can indicate a situation when the country's production capacities are not able to meet the increased demand for goods and services. Demand exceeds supply and there is almost total employment. Overheating is usually accompanied by high (much higher than average) growth rates of commodity markets, and necessarily a moderate or low price of credit funds.

Overheating does not occur suddenly, the effect can accumulate for months or years. Most often, individual segments "overheat". The indicators are rapid wage growth outpacing inflation, a decline in the unemployment rate, capacity utilization close to maximum, low labor productivity dynamics, a surge in prices in the housing, motor transport, and domestic tourism markets. The conditions and indicators of overheating will be different for states that are different in size and level of openness.

Are there some parallels of the processes being the case today and similarities of external conditions? Let's figure it out.

Deferred demand

So, since March 2023, the Belarusian economy has started to grow, and since April there has been a foreign trade commodity deficit, as can be seen from Belstat data. It is logical to assume that the reason for economic growth, as well as the foreign trade deficit, was the stimulation of domestic demand.

To test this hypothesis, let's study the dynamics of a number of indicators from August 2022 to June 2023. The GDP growth index reached positive values for the first time in March 2023 and made 7% by June. The drivers were internal and external demand, and the latter to a greater extent. The positive dynamics of Belarusian exports reached 37% in March, 17% and 11% in the following months.

The increased export revenues were subsequently redistributed between economy sectors and aimed at increasing consumer and investment demand in the domestic market, but the peculiarity of these processes is their pure nature, which did not result from a stimulating policy.

On the one hand, the beautiful upward dynamics was predetermined by the "low base"effect. It was in March 2022, when after the imposition of sanctions, exports decreased most significantly compared to the previous month, therefore in March this year, after the economy adapted to the sanctions, the growth turned out to be significant. But exports have also increased in absolute terms: if in the pre-sanctions period in January 2022 Belarus exported goods and services worth US$4 billion, then in March 2023 - US$4.3 billion. The result of the economy's adaptation to sanctions restrictions seems to be the root cause of GDP growth.

But how to assess the emergence of a foreign trade deficit? Could it be a sign of over-stimulating demand? The stimulation can be indirectly indicated by high indices of money supply growth, inflation, as well as a relatively stable ruble exchange rate.

Indeed, the money supply in the period under review increased by 20-30% compared to the same period last year. The reason was both the growth of ruble turnover as a result of an increase in the margins of importers and trading enterprises, and the import of inflation. Almost all of Belarus' neighbors had and still have it at the level of 20%. In Belarus, there is an inflation slowdown from 17% to 3%.

There are also no signs of artificial holding down the dollar, which in July already exceeded the mark of 3 BYN / USD. Since March 2023, the dollar exchange rate index has been ahead of the ruble money supply growth index, which indicates mainly external causes of devaluation. It is more likely that the foreign trade deficit was the result of the implementation of deferred import demand in the spring of 2023 as a result of the gradual expansion of the range of imported goods.

The prospects of the dollar exchange rate in Belarus are determined mainly by the exchange rate of the Russian ruble against the dollar, and its further devaluation due to external factors is not excluded. This may slow down the growth of our GDP at certain moments, reduce the growth rates of exports and imports, stabilize the foreign trade balance and accelerate inflation somewhat, but it is not a sign or consequence of economy overheating.

What about other indicators?

The overheating of the economy starts when virtually all available labor resources are used, and aggregate demand continues to increase. The unemployment rate in Belarus, same as the number of employed in the economy, are steadily declining. In the second quarter of 2023, according to the methodology of the International Labor Organization, the unemployment rate is 3.4%. For comparison: in the second quarter of 2022 – 3.7%, 2021 – 4%, 2020 – 4.2%.

Low unemployment combined with a steady trend of reducing the number of employed may indicate that we are already at the limit of our potential. And it is the labor market that can become a key constraint on long-term growth.

The labor market in numbers

In June 2023, 4,148 million people were employed in the Belarusian economy. Compared to June 2022, the number of employed decreased by 60.5 thousand, by May 2021– by 119.5 thousand. Over three years since May 2020, the number of employed has decreased by 152.7 thousand people.

On the other hand, the outflow of labor resources from the economy may be linked with an excess of labor supply over demand in the domestic market (for example, the IT sector). This, combined with an incomplete, albeit increasing, capacity utilization, indicates the absence of overheating.

The increase in aggregate demand is positively influenced by the growth of consumer spending, stimulated by an increase in wages. In Belarus, the nominal accrued average salary in the first half of the year made 1,796.3 rubles. In June, it reached 1,927.1 rubles against 1,861.1 in May and 1,795.9 in April, which testifies the dynamics is continuing. In real terms, earnings increased by 7.4%, including 15.2% in June. And this wage growth is taking place amidst a decrease in inflation. In June, its annual level was 2.9% (in May – 3.7%).

The increase in wages has a positive effect on the dynamics of retail turnover, which increased by 4.6% in the first half of the year. The wholesale trade turnover also showed a positive result – plus more than 5%. Expanding consumer demand is likely to form inflationary pressures in the future, but is a sign of recovery, not a marker of overheating.

Another possible symptom of overheating is overinvestment in fixed assets. Investment growth has accelerated markedly – 7.2% in January –June in annual terms after 2.5% in January–May and 26.3% by June 2022. At the same time, the level of investment in the first half of 2023 made only 81.4% of the corresponding value of the first half of 2019. It can be concluded that there is also a recovery in the investment sector of Belarus, which has not yet been completed. That is, there are no overheating markers in this sector either.

And what about housing?

Overheating is a consequence of the increasing imbalance between supply and demand. An example illustrating this process is the surge in prices in the housing market. According to the National Cadastral Agency, 2022 was a record year for the entire history of observations in the number of apartment purchase and sale transactions. The change in the average cost per square meter of the total area of housing in 2022 compared to 2021 is 3.5% (a year earlier – 4.6%).

In the first half of 2023, the number of real estate transactions in regional centers is 69% (in Minsk – 48%) of the 2022 level. In the second quarter of 2023, square meters were sold by 18% more than the same period last year, the cash turnover exceeded the turnover of the second quarter of 2022 by 22%.

Demand growth is associated with favorable credit conditions and the trend will continue in the coming months. Housing construction in January-June 2023 is 8% behind last year's pace. But the plans include growth: in 2023, the volume of housing commissioning should be 4.3 million square meters (4.2 million were built in 2022). Therefore, there is a high probability that the imbalance between supply and demand in the housing market will not increase in the coming months.

Thus, according to our estimates, the Belarusian economy is not in danger of "overheating" in the next few months, since the growth model based on stimulating domestic demand has not exhausted its possibilities. In these conditions, it is advisable to further increase the existing factors of production. Monetary policy stimulus measures will continue to be effective and will help to restrain inflation in the range of 7-8%. But the risks of economy overheating which is quickly adapting to sanctions, certainly exist, and it is important not to miss its markers.

The Economy of Belarus Journal