Steinbock: Is Finland Pricing Itself Out of Global Competition?

Steinbock: Is Finland Pricing Itself Out of Global Competition?
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During the past two years, the Eurozone focus has been on the ailing Southern European economies and their austerity fatigue. In the next two years, it will be on the last triple-A economies in Northern Europe and their bailout fatigue, including Finland.

Before the recent Finnish municipal elections, Gillian Tett of the Financial Times reported that "some Finnish business and government officials are quietly mulling the logistics of leaving the currency union."

In reality, in the late October municipal election, the three big parties – the Conservatives (22%), the Social Democrats (20%) and the Center Party (19%) – consolidated their position, while the Euro-skeptical True Finns garnered more than 12% of the votes.

The real story is that, like in certain other triple-A EU nations, months of political campaigns served to defer painful economic decisions.

Time to face the music

Only a few days after the Finnish municipal election, CEO Jorma Turunen of Finnish Technology Industries released a grim economic outlook entitled: "The ship is sinking – it's time to face the music."

With its member companies, the trade association represents 60% of total Finnish exports and 80% of total Finnish R&D-investments. What concerns the Finnish high-tech and mid-tech executives are the eroding ability of Finnish companies' to secure orders and provide jobs. Since fall 2008, the export-led growth model has been spluttering.

In September, Finnish unemployment was still 7.9%, significantly below the EU (EU27, 10.6%) and Eurozone (11.6%) average. However, it is expected to climb significantly next spring. "The crisis is not reflected in government decision-making," CEO Jorma Turunen warns. "If nothing is done, unemployment will inevitably rise."

In a small country, even rapid short-term shifts can be accommodated. The more challenging question is, how will the unemployment rate come down?

In the past, Finland has experienced extraordinary challenges, but managed to surpass obstacles. In the early 1990s, the Nordic country had its most severe recession since the 1930s. At the time, the Finns could still navigate away from the storm with export-led growth. Second, as the country joined the European Union and the Eurozone, Finnish companies in forestry, metal-engineering and chemicals industries – the three core strengths of the country – could finally join in and benefit from globalization. Third, Nokia's dramatic expansion boosted confidence in the future.

Today, none of these venues are any longer available.

From friction to joint efforts

As even thriving core economies in Europe are slowing down, private demand and consumption are lingering, which is compromising export-led growth across the region.

Second, many Finnish multinationals – from forestry (Stora Enso, UPM) to metal-engineering (Wärtsilä, Metso, KONE) – have enjoyed their greatest globalization benefits in the past decade or two.

Third, as long as Nokia was thriving, it contributed disproportionately to the Finnish economy, through tax revenues, investment, and jobs. Now the effect has been the reverse.

What constrains progress is friction at the top of the private sector. After only two years, the CEO Mikko Pukkinen of the Confederation of Finnish Industries (EK) will be replaced by former Minister of Economic Affairs Jyri Häkämies, while the board will have a new, more hands-on chairman Ismo Kokkila, a real estate developer.

EK was created in 2005 as a combination of export-driven industries, which compete internationally, and service industries, which are largely domestic. In the postwar era, EK has been dominated by industrial export leaders; in the past two years, the service sector has had the upper hand, which has been reflected in collective labor agreements.

In an export-driven country, this has adverse implications over time, especially if the linkage between productivity and international competitiveness crumbles. What's worse, friction has deepened between EK and SAK, the Central Organization of Finnish Trade Unions.

Meanwhile, the Finnish government has boosted efforts to overcome friction. While Finnish companies have globalized since the early 1990s, the national innovation system has remained inward-looking. That, however, may change in the coming years.

When Pekka Soini, a former Nokian, started recently as Director General of Tekes, the influential Finnish Funding Agency for Technology and Innovation, his primary objective was to boost internationalization. Kari Häyrinen, CEO of Finpro, has been pushing for strengthened global competitiveness of Finnish companies, while inward foreign investment, led by CEO Tuomo Airaksinen of Invest in Finland, is finally being embedded with the national innovation system.

Before the weekend, Jan Vapaavuori, the new Minister of Economic Affairs, said he wants to shift competitiveness to the center of Finnish industrial policy. The country needs 200,000 new jobs. That is possible, but not without the cooperation of EK and SAK.

Dependency on Europe

In Brussels, Olli Rehn, a Finnish politician and current EU Commissioner of Monetary and Economic Affairs, has often scolded his Euro-skeptical fellow Finns, who used to be known as EU model students, for turning into trouble-makers. In turn, leaders of the Finnish Institute of International Affairs (FIIA) argue that Finland does not have any viable or attractive alternatives to its participation in the single currency. Funded by the Parliament of Finland, FIIA will reflect the consensus view, however. Some Finnish banks, particularly those headquartered in non-Eurozone countries, are already preparing for alternative contingencies.

Nonetheless, Finland will be neither the first or last to leave the euro; it is likely to follow the strategic moves of the EU's last triple-A core economies.

Like other small and open economies, Finland took a heavy hit after fall 2008. It experienced a dramatic 8% contraction, the worst since the Finnish Civil War in the late 1910s. Yet, despite the crisis, there was little sense of a crisis.

The generous Nordic social model protected the Finns. In 2010, the economy rebounded strongly, initially. However, it was no longer predicated on exports, which failed to regain their previous vigor, but on increasing debt.

As the Eurozone debt turmoil escalated, plunging demand from trading partners dragged the Finnish economy to a standstill in late 2011, despite strong annual growth of 3%. In the past few years, Finnish competitiveness has deteriorated significantly, with contracting export market shares. The small current account deficit in 2011 was the first in nearly two decades – but not the last.

Nonetheless, Finnish orientation remains highly euro-centric. Europe dominates more than 80% of all Finnish direct investment abroad, and almost 60% of all Finnish exports.

As long-term projections indicate that Europe's role in the world economy shall significantly decline in the next decades, euro-centric reliance is not likely to be rewarded in the immediate future.

Eclipse of triple-A economies in the Eurozone

The Finnish case has its unique characteristics, but commonalties abound across the last triple-A economies in the Eurozone. The reliance on export-led growth, international export industries versus domestic services, erosion of technology innovation amidst global competition – these are forces that are well recognized in Germany, the Netherlands, and Austria as well.

What is new in the competitive equation is the obligation of these countries in one part of Europe to engage in significant economic support of another part of Europe. If they fail to do so, they shall risk their long-term future. If they comply, they may risk their short-term future.

In the coming days, Brussels will declare its support for Greece, while Italy and Spain will have two years to get their economic engines in shape. From the standpoint of the remaining triple-A nations that will require greater contributions to stability funds, rising unemployment, and increasing deficits.

In Finland, the key immediate policy concern will be to cushion the downturn. Despite strong fundamentals and solid policies, Finland's short-term outlook is threatened by intensifying external strains and structural erosion internally. In the longer run, Finland faces substantial challenges from a rapidly aging population, slowing productivity growth, and eroding competitiveness.

As economic activity is weakening in the Eurozone in several countries, spillovers to Finland will be significant. There is no way out without genuinely pro-growth policies, which require painful but pressing structural reforms in labor markets.

During World War II, Finland retained its independence against the Soviet Union, but had to engage in a delicate balancing act between the West and the East. "Acknowledging the facts," said the then-President J.K. Paasikivi, "is the beginning of wisdom."

With old policies, the Finnish tiger is pricing itself out of global competition, even as it will experience deepening income polarization. It's time to face the facts.

Dan Steinbock is research director of International Business at India China and America Institute (USA), visiting fellow at Shanghai Institutes for International Studies (China) and in the EU-Center (Singapore).