Tallinn - Estonia faces a "challenging" couple of years ahead according to the Organization of Economic Cooperation and Development (OECD) in its semi-annual Economic Outlook, released Tuesday in Paris.

Despite not being a full member of the OECD, Estonia is singled out for examination as a selected non-member country.

After more than a decade of rapid economic growth, the small Baltic nation is now in recession, but the OECD suggests growth will return in around a year's time.

"Real GDP will continue to decline through to the end of 2008, reflecting mostly a sharp drop in domestic demand. Growth is projected to gradually pick up by the end of
2009 and into 2010, driven by stronger exports," the report said.

"Currently high inflationary pressures are expected to weaken in 2009, but the past real exchange rate appreciation will make the desired export driven recovery challenging," it continued.

The OECD said labour market reform was particularly desirable and assessed planned labour law reforms in a positive light.

"The new labour law, currently under consideration in parliament, proposes some measures that will raise labour market flexibility, in particular shortening the notice period for layoffs and cutting severance payments. The law, in combination with business-friendly product market regulations, would facilitate economic recovery," the report said.

Estonian annual inflation will fall to "close to 3 per cent" in 2010 from its current level of 9.8 per cent, the OECD predicted. (dpa)