Vihriälä working group:
Major adjustment package needed for consolidating public finances after business support phase and economic stimulus

The Vihriälä working group today, 8 May, submitted its report on the economic impact of the coronavirus crisis to the Ministry of Economic Affairs and Employment and the Ministry of Finance.

The report presents an assessment of the economic impact of the coronavirus crisis and of the measures to reduce the damage to the economy and to restore Finland after the crisis to a path of sustainable growth, high employment and sustainable public finances.

In its report the working group presents a three-stage economic strategy for dealing with the impact of the coronavirus crisis. The first economic policy task will be to reduce the immediate adverse effects associated with the restrictive measures and the fear that is prevalent, focusing above all on the ability of businesses to function. Following this, the economy will need a substantial stimulus. When growth returns, the economic damage must then be repaired and public finances consolidated. The working group advises that the Government, when determining the recovery measures, should also decide on the objectives of the necessary adjustment package and set out the process for preparing and actively implementing the measures.

The chair of the working group is Vesa Vihriälä, Professor of Practice, Economics, and the other members of the group are Professor Bengt Holmström, Professor Roope Uusitalo and Sixten Korkman, D. Soc.Sc.

Restrictive measures must be dismantled but with care

The Finnish economy is facing a deep recession due to the coronavirus crisis. The working group estimates that output and employment will trail below their previous growth track for some considerable time to come. There is the prospect of a new ‘lost decade’.

The economic impact of the crisis is attributable both to the restrictions imposed on people's interaction and economic activity throughout the world and the fear of infection. For the economy to recover, the restrictions will have to be dismantled and fear eliminated.

The dismantling of restrictive measures must be carried out safely, however, and this requires a substantial focus on testing and on different types of protective measures. The working group stresses the importance of having adequate testing and tracing capacity and effective protection, such as face masks and safe procedures and actions, before restrictive measures can be removed.

Direct financial support for small and medium-sized companies

The working group considers that the support measures already implemented are beneficial for the operating conditions of the business sector in Finland. However, the group feels that the measures are not sufficient, and that a more general system is needed that can speedily support the profitability of companies in all sectors. The working group proposes that the financial support be targeted at covering those costs which small and medium-sized companies are unable to cope with without ceasing operations completely. Labour costs should also be included within the scope of measures, according to the working group.

As the crisis goes on, support measures aimed at rescuing a very broad number of businesses will become much harder to sustain, says the report. The means do not exist for this. It will therefore be essential to be more selective and concentrate on preserving the ability of the most valuable parts of the business sector to function.

2021 Budget must be expansionary with substantial stimulus

The economy requires a substantial stimulus after the restrictions are dismantled, says the report. Current information indicates that the 2021 Budget will have to be greatly expansionary. Some stimulus measures could be considered in late summer if sufficient progress has been made in lifting the restrictions.

It is paramount that the stimulus policy should aim at strengthening economic performance. This would not call for general tax cuts, further income transfers or additional benefits. Instead, the focus would need to be on ways of boosting the productive capacity and growth-seeking orientation of the economy as time goes on.

This naturally points to investment in the basic frameworks in society that will support the economy through increasing demand in the short term and reinforcing the performance and productivity of the economy in the longer term.

Investments in furthering environmental and climate policy and in raising energy efficiency are worth consideration, the report says. There is also good reason to front-load additional spending on skills enhancement, research and innovation. Such annual expenditure must nevertheless be reconciled with tight spending limits in the longer term.

Consolidation of public finances requires major adjustment package

Dealing with the coronavirus crisis is a financial drain on Finland and will significantly weaken the balance in its general government finances in the medium term. This means that after the stimulus phase, it will be vital to adjust public finances to a level that the economy can sustain, and the adjustment will be considerably greater than was envisaged before the crisis. In practice, the adjustment will be in the form of reducing expenditure and/or raising taxes.

The scale of the adjustment needed is unclear. The working group concludes that the minimum extent of this, assuming an unaltered economic structure, will be 3–4 per cent of gross domestic product (GDP). This would probably suffice to stabilise the general government debt to GDP ratio at a level below 90 per cent in the 2020s. The adjustment measures would reduce the long-term sustainability gap by a corresponding amount but would not suffice to eliminate it.

The need for such an adjustment could be reduced, however, if it is possible to raise the employment rate, productivity and especially the efficiency of publicly funded services. The challenge of such a structural adjustment policy is that, even at best, its impact would be slow and its effects always uncertain.

In the working group’s view the need for adjustment will be so great that all means will be necessary: expenditure cuts, tax increases and a growth-oriented structural policy. While the working group does not take a stance on individual measures, it does raise issues related to the labour market, education, training and innovation policy and the effectiveness of taxes.

Consolidating public finances will be a very demanding task, according to the working group. The group is nevertheless confident that Finland will cope with this as it has with previous challenges.

Inquiries:

Vesa Vihriälä, D.Soc.Sc., Professor of Practice, Economics, tel. +358 43 824 1660, vesa.vihriala(at)helsinki.fi
Professor Roope Uusitalo, tel. +358 50 432 6094, roope.uusitalo(at)helsinki.fi
Jari Gustafsson, Permanent Secretary, Ministry of Economic Affairs and Employment, tel. +358 50 408 2099, jari.gustafsson(at)tem.fi
Martti Hetemäki, Permanent Secretary, Ministry of Finance, tel. +358 29 553 0292, martti.hetemaki(at)vm.fi