Ernst & Young has revised upwards its 2011 GDP growth forecast for Malta from 2.1 per cent to 2.7 per cent, bringing it closer to the government’s three per cent prediction.
According to Ernst & Young’s recently published Summer Eurozone Forecast for Malta, Malta’s growth this year and next is set to be restrained, but nevertheless is expected to average 2.7 per cent in 2011 and 2.8 per cent in 2012.
“Strong growth last year narrowed the margin of spare capacity, with unemployment down to 6.2 per cent in April. This, plus a slower rate of export growth to key EU markets is set to restrain Malta’s growth this year and next. GDP growth stood at 2.3 per cent in Q1 and is expected to average 2.7 per cent in 2011 and 2.8 per cent in 2012,” the report says.
Ernst & Young says the main risks to these forecasts arise from the sensitivity of export demand to eurozne growth (and by extension to a deterioration of the fiscal crisis in the peripheral eurozone countries) and Malta’s exposure to instability in North Africa.
“The latter risks influencing growth both by disruption of trade links and rising commodity prices and import costs.”
It says the tight labour market also means potential risk exists of rising labour costs, especially as new jobs are appearing in non-traditional sectors with different skill requirements. It points out that annual labour cost growth slowed to 0.3 per cent in Q4 2010, from 2.4 per cent in Q4 2009, as wage growth slowed to 0.4 per cent and non-wage labour costs actually fell.
“Pay rises have stayed modest despite increases in living costs last year, due to the passing on of higher imported energy costs in utility bills and extension of VAT,” it says.
The report points out that the downside of wage restraint is pressure on disposable income and this means that private consumption has not yet contributed significantly to the economic upturn.
“Consumption increased by a modest 0.1 per cent in the year in Q1, according to seasonally adjusted data, while retail sales volumes were seven per cent lower than one year ago in April. In May (2011), new vehicle sales are set to fall after the ending of the scrapping scheme, launched in November 2010. Demand was met by imports, as there is no local production, but the programme contributed to a reduction of vehicles’ emissions and the government has announced an extension of the scheme for 2011.”
Ernst & Young points out that the fiscal balance is expected to continue to improve in 2011 – 2012.
“We forecast the deficit will average 3.1 per cent of GDP in 2011 and three per cent in 2012. The improving picture has mostly come from the revenue side. Preliminary figures show a €34 million reduction in Q1 deficit, mostly achieved by higher VAT receipts.
“We expect this pattern to continue. While transfer payments (especially pensions) were lower than expected in Q1, savings from reduced public employment and benefit eligibility will take longer to achieve.
“We expect the public debt to reach 68.1 per cent of GDP this year and decline only slowly thereafter. This remains well above the Maastricht limit of 60 per cent and the government may try to bring it down with public asset sales. But the debt is mainly domestic and relatively long term, so payments on it remain affordable and rolling it over should not be problematic.”
It says the government has therefore regained the scope for continued public investment in its priority areas, including education and training, health care, telecommunications, transport, renewable energy and childcare provision to increase the female workforce participation. These will ultimately raise the potential growth rate, it argues, and their increased affordability through expanding tax revenue will defuse the pressure applied by the EU for spending cuts extending to capital programmes.
The reports says subdued consumer spending and the improving fiscal balance will hold down inflation pressures in 2012 – 2013, in spite of a narrower margin of spare capacity in the economy. Consumer price inflation dropped to 2.4 per cent in April, from 2.8 per cent in March, and fell below the eurozone average.
“Meanwhile, producer prices have been successfully stabilised after last year’s energy cost increases: the year-on-year rate peaked at 15.6 per cent in December, and fell to 1.3 per cent in April. We expect CPI inflation to average 2.8 per cent in 2011, and drop to 2.3 per cent in 2012.”
The forecast says there remain medium-term inflation risks from import costs, especially of energy, compounded by a shorter-term risk from additional expenditure linked to refugees. But structural changes have increased the economy’s ability to absorb imported inflation without a domestic wage-price interaction.
Looking at 2010 it says GDP growth reached 3.6 per cent, as financial services returned to growth rates attained before the eurozone recession, tourism bounced back to record numbers and high added value manufacturing maintained its expansion.
It says financial intermediaries accounted for around 80 per cent of capital expansion by foreign owned companies last year in the form of equity increase, which was the main source of foreign direct investment that rebounded to €11.9 billion in the 12 months to June 2010.
Joining the EU and eurozone and gaining access to the single financial market without exchange rate risk have been major contributors to the financial sector’s expansion, it says.
“The financial sector has been further promoted by administrative arrangements which keep taxes low and regulation light while containing prudential risk. Strong capitalisation and limited property exposure prevented the banks from being destabilised by the credit crunch, strengthening the island’s reputation against that of competing eurozone centres that suffered more extensive shocks.”
It explains that in order to enhance the local attractions to senior management the government in May clarified the expatriate tax rules first introduced in January 2010. Senior executives will pay a flat tax of 15 per cent on incomes up to €5 million, with no tax applying above this.
The report highlights that insurance revenue rose 22 per cent in 2010 as Malta secured a number of new European units set up by multinational insurers to satisfy the EU’s Solvency ll regulations (due to take effect from January 2013). The arrival of specialist insurance asset managers has added to the financial centre’s attractions for other insurance operations.
The past year’s insurance expansion has been concentrated in life cover, broadening the industry’s base and improving its prospects for absorbing the upturn in non-life claims arising from recent earthquake losses in New Zealand, Japan, Chile and Spain.
Industrial production growth picked up to 5.2 per cent year on year in Q1 2011 and provisional data showed a slight contraction in April.
Among the expanding sectors is the production of electronic components, a high added value sector that has successfully managed through the recession, and aircraft maintenance. The latter has kept growing despite retrenchment by airlines as the longstanding strength in ship registration has been successfully extended to aircraft registration, helped by harmonisation of laws to international standards in 2010.
The outlook for high-tech industrial growth is becoming more favourable, the report points out, as global technology companies prepare for expansion in SmartCity. Meanwhile, although transport costs, amplified by ‘green’ taxes on road haulage, have narrowed the cost advantage of subcontracting and processing industries, the competitiveness of export oriented service sectors will be boosted by upgrades to internal linkages.