(TALLINN) - Estonia is seeing its first major economic slowdown since it joined the European Union in 2004 and it will have to handle the accompanying problems with care, the International Monetary Fund said in a report Monday.

In April, Estonian consumer price inflation hit a 10-year high of 11.4 percent as growth slowed to 0.4 percent in the first quarter of 2008.

"The Estonian economy is undergoing its first significant slowdown in nearly ten years," the IMF said in its annual report on the country.

"The turnaround was caused by a shift in sentiment as (2004) EU accession-related euphoria gave way to more realistic expectations and by a reversal of credit conditions as cheap global credit gave way to cautious lending at higher interest rates," the report said.

"Domestic demand slowed and the external current account deficit narrowed sharply."

The Estonian central bank has more than halved its 2008 economic growth forecast to 2.0 percent, citing fears of a global slowdown and high inflation.

The bank previously had been forecasting gross domestic product (GDP) growth of 4.4 percent this year.

Last year, GDP grew 7.1 percent after a national record of 11.2 percent in 2006 -- the second-best rate in the entire EU.

"The slowdown was needed -- it was preceded by two years of unsustainable high growth and wide imbalances -- but it is now proceeding faster than expected," the IMF report said.

"Indeed ... (the) surprisingly low flash estimate of first quarter 2008 GDP (growth) suggests that growth for the year as a whole may be negative," the IMF report warned.

"A revival of exports or investment will be needed to prime the pump for a recovery," it added.

The IMF report predicted soaring inflation would moderate "assuming no further external price shocks."

The head of Estonia's central bank Andres Lipstok, speaking at the presentation of the IMF report, agreed, saying he expected a decline will begin in the second half of 2008 but it "depends a lot on how the balance between labour productivity and salaries will develop in Estonia.

"During the last year salaries have increased more rapidly than productivity and that trend has to change," he cautioned.

Finance Minister Ivari Padar said spending cuts were "the most important thing" in this context but IMF analyst Franciszek Rozwadowski said such cuts must be made with caution.

"The (IMF) mission supports the intention to find further fiscal savings but not at any cost" Razwadowski said.

"Savings should not offset all of the positive impulses and should not be implemented by cutting investment, especially those co-financed by the EU, needed to support the resumption of growth," he said.

With a population of 1.3 million Estonia joined the European Union along with fellow ex-Soviet Baltic states in 2004.

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