Lessons from Latvia

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The small Baltic state of Latvia faced bankruptcy and riots two years ago.

It was saved by a large bailout in 2008, from the International Monetary Fund and the European Union.

Its economy contracted by 18% in 2009, but by last year, growth was back in positive territory.

The budget deficit has been cut by 16% of GDP, and now world leaders faced with their own deficit problem are flocking to the Latvian government for advice.

Business Daily's Lesley Curwen has been speaking to Latvia's Prime Minister, Valdis Dombrovskis about how he thinks the economy is doing.

The full transcript is below:

Valdis Dombrovskis: We are still working on Latvia's economic stabilization program. So far, one could say, progress is quite good. This year we are returning to economic growth. We expect 3.3% GDP growth this year. Also, the structure of economy is changing, and really we see that industrial production and exports are the drivers of economies. Of course, one of the most painful things we needed to do was fiscal adjustment to reduce excessive budget deficit, and so far we have done more than 16% of GDP fiscal adjustment and this year's budget deficit is 5.4% of GDP, well below programme target of 6%.

Lesley Curwen: So, that's the good news. You are telling me all the good figures there, but the cost has been enormous, hasn't it, the cost in terms of the pain and misery, and the fact that isn't unemployment now the highest in Europe?

Valdis Dombrovskis: Well, unemployment is one of the highest in Europe, just after Spain, and really unemployment is one of the problems which is going to stay for some time. It's going down, but it is going down very gradually. But again, you need economic growth to reduce unemployment, and for economic growth in turn you need financial stability.

Lesley Curwen: So was your philosophy cut hard and cut fast?

Valdis Dombrovskis: Well, certainly one of the lessons we learned during this fiscal adjustment that it's better doing fiscal adjustment quickly. So to, say, frontload it, because if it extends over the year, some kind of consolidation fatigue is coming also, and it's also better in terms of giving this impression that the worst is over, and this then in turn is boosting confidence and stimulating economic recovery.

Lesley Curwen: Obviously economic growth is very important, but is it the only way that you can measure what's happening in the economy? I mean we hear stories about old people begging on the streets because their pensions have been cut so hard.

Valdis Dombrovskis: Well, while doing all the cuts, we also introduced what we call a "social safety network", which was a targeted set of measures exactly for those people mostly affected by the economic crisis. So, we extended the period of paying unemployed benefits, to increase currently the minimum income benefit, which is the one you receive after your unemployed benefit expires. As regards pensions, I must say just the contrary. Yes, we made decisions on pension reductions, which were then reverted by constitutional court, so all those pensions are already affected and so far given also the deflation we had, so far, pensioners are the social group which has not shared this burden of fiscal consolidation.

Lesley Curwen: But you tried, didn't you, to cut pensions by 70%? It was only the court that stopped that.

Valdis Dombrovskis: No, no, no. Wait a minute. We reduced pensions by 10% and then for 70% for working pensioners as a labour market measure, so that working pensioner can choose basically, whether to continue working to receive salary plus 30% of the pension, or quit and receive full pension.

Lesley Curwen: Obviously, one of the big questions is what happens next to Latvia? What happens about the euro?

Valdis Dombrovskis: Well, our current economic stabilisation programme foresees that we would meet Maastricht criteria in 2012 and thus being able to join the eurozone as of January 1, 2014.

Lesley Curwen: A lot of people looking at what's happening in the eurozone at the moment would be surprised that any country would actually want to join the euro given what's happening?

Valdis Dombrovskis: Well, the point is that our currency is anyway narrowly pegged to the euro. So, so far, we have all the disadvantages of the euro and none of the advantages. So, also, there is a relatively good popular support for joining the eurozone.

Lesley Curwen: Even though some would argue that it's a currency zone that perhaps is going to collapse at some point if one or more members were to leave it?

Valdis Dombrovskis: Well, we know that there are many doomsayers, but what we see, that those control and sanction mechanisms which are being introduced now I think will help to address current economic problems.

Lesley Curwen: Let me ask you, have you had anybody from other countries that have quite big deficits asking you for advice about how to get their deficits down?

Valdis Dombrovskis: Well, certainly we share the experience and…

Lesley Curwen: Which countries? Go on, tell me.

Valdis Dombrovskis: Well, there are many countries we have been discussing, especially during 2009; experiences with Estonia and Lithuania. Of course, there have been some discussions with Greece, with Ireland, Hungary. Also, there are some questions from UK, but…

Lesley Curwen: From the UK?

Valdis Dombrovskis: But, it is also quite clear, there is no universal recipe. Each country has its own issues, problems, sensitivities. So while agreeing on the need to regain financial stability, it's still very individual for countries which exact decisions to take.

Lesley Curwen: Can you tell me anymore about what the UK has been enquiring about, about your policies?

Valdis Dombrovskis: Of course, Latvia is often used as an example of how to deal with economic crisis. So far, none of the countries has done a fiscal adjustment of this scale of 16% of GDP, and certainly there are interests also in the set of measures which we have been doing, and maybe there are some ideas - some structural forms, which are also interesting for other countries.

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