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Global macro & geopolitics from a small economy perspective

From Finland to the world

David Skilling
8 December 2017

This week Finland marked its 100th anniversary of independence. At the celebrations in Singapore, complete with a seasonal guest from Lapland, I was reminded again of the lessons that Finland has to teach other small (and large) countries in responding to economic and political challenges.

On 6 December 1917, a few weeks after the Bolshevik Revolution, Finland declared independence from Russia. The period since has not been smooth sailing – Civil War, fighting off the Soviet army in WWII, navigating the Cold War, the collapse of the USSR, and more recently various economic challenges. But despite these many challenges, Finland has demonstrated deep resilience and has created a prosperous economy and society.

At the end of 2017, Finland has much to celebrate. It routinely ranks near the top of various international rankings: from dominating measures of educational systems and human capital; to competitiveness and innovation performance; to gender equality, equal income distribution, and quality of life. And Finland’s economy is growing again. Indeed, Finland has been the best-performing Nordic economy through 2017, registering GDP growth of a touch over 3% in the year to Q3 2017. Unemployment is gradually falling, exports are growing strongly, and the fiscal position is improving.

This experience holds lessons for others. Although the world is experiencing a broad-based global economic recovery, the economic and political environment is becoming more challenging: from the impact of disruptive technology, to the challenges and opportunities of globalisation, and a changing geopolitical context. In many of these areas, the Finnish experience offers guidance.

The first insight is the importance of sustained, coherent investments in building competitive advantage. For Finland, human capital and R&D spending (currently ~3% of GDP) has been central to building on existing strengths in industry and pulp & paper. There was a marked increase in R&D spending from the mid-1990s that supported the development of an innovation-heavy economy – and stronger rates of GDP growth.

Some of this was too reliant on a single company. Significant economic damage was done when Nokia encountered competitive pressures; Nokia’s market capitalisation reduced from €110b in late 2007 to €$24b today. This is a useful reminder that small economies need to balance deep positions of competitive advantage in some areas against the risk of becoming overly concentrated in a fast-moving world. Finland now has a more distributed growth model, with an active start-up scene and several unicorns (Rovio, Supercell).

The second insight is on managing the pressures of globalisation and technological change. Finland is active in international markets, particularly through outward direct investment – with successful multinationals from Nokia and Kone to Sampo and Neste. As with other Nordics, Finland has buffered some of the associated volatility through an active social insurance system: at around 55% of GDP, public spending is among the highest in the OECD. And Finland continues to innovate, with (limited) experiments on the effectiveness of universal basic income measures.

But being open creates competitive pressure. Finland has a long-standing reputation for fiscal discipline. And a key part of the crisis response over the past several years has been acting to reduce the cost structure of the economy, partly by addressing public spending commitments, to respond to concerns that Finland’s competitive position was weakening. This ongoing supply-side response has positioned Finland well for the global economic recovery that is underway.

The third lesson is the dual importance of deep regional integration as well as diversification of external relationships (a message that the Brexiters would do well to understand). Finland joined the EU in 1995 (relatively late, because of geopolitical constraints), but was a founding member of the euro (the only Nordic to do so). As with Ireland, another relatively peripheral European country with a large neighbour, EU membership has been economically and strategically central to Finland’s subsequent success.

About 60% of Finland’s merchandise trade enters the European single market, a major source of advantage for a small economy. But Finland has also been aggressive in diversifying into other regional markets. Over 25% of Finland’s exports of goods are sold into Asian markets, for example. And Helsinki is positioning itself as the ‘Dubai of the North’, leveraging its physical proximity to Asia to serve as an aviation hub. Small economies need to think global as well as regional.

Finally, Finland’s long experience with Russia offers lessons for small economies that are seeking to balance between competing big powers. Through the cold war, Finland was essentially neutral; and since then has navigated relationships between Russia and the West carefully. For example, Finland is not a NATO member (also the case for Sweden). Acting in a hard-headed way has worked for Finland, enabling constructive relationships to be preserved with Russia (the Finnish Foreign Minister was recently quoted in the FT saying that ‘they don’t respect crawling on knees’).

Even so, Finland is exposed. Exports to Russia are down by about 40% since 2013, after EU and US sanctions on Russia were introduced (with counter-measures from Russia). And in response to a more aggressive Russia, Finland is doing more in the security space with its Nordic and EU neighbours; and NATO membership is being discussed. As with other small economies in the Asia Pacific and the Middle East, a changing geopolitical environment may require new approaches. Balancing may not be enough.

Overall, Finland’s record shows that with seriousness of purpose, small economies can do well even in challenging circumstances. Hyvää itsenäisyyspäivää, Suomi!

Dr David Skilling
Director, Landfall Strategy Group
twitter: @dskilling

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