Latvia Emerges Stronger As International Support Winds Down

Latvia now much less vulnerable than before the 2008 global economic crisis

Growth has returned but unemployment is high, and the social safety net remains important

Strong ownership has been critical to Latvia's achievements under the program

Its decision to keep its currency pegged to the euro meant it had to go through a painful process of internal devaluation―cutting wages and prices―as a means to restore competitiveness and growth.

Today, three years later, Latvia has successfully completed its IMF and EU-supported program. The peg remains intact, international reserves have recovered, and Latvia regained access to international capital markets in 2011, issuing a $500 million bond. The fiscal deficit is now much lower, and the country is within reach of qualifying for euro adoption. The economy grew by some 5 percent in 2011, led by a rebound in exports. For 2012, the IMF is now forecasting growth of 1.5 percent, although that forecast is subject to considerable uncertainty because of the crisis in the eurozone.

In an interview, three people closely involved in Latvia’s IMF-supported program during the past three years―IMF mission chief Mark Griffiths, resident representative David Moore, and mission team member Magnus Saxegaard―discuss Latvia’s achievements and look at the challenges that are still ahead.

IMF Survey online: Latvia was one of the first countries to seek IMF support during the global financial crisis. Now, three years later, the economy is growing again and the program has ended. As mission chief for the past 3 years, what do you regard as the main achievements of the program?

Griffiths: The last few years have been incredibly challenging, but through their program the Latvian government and the Latvian people have made considerable progress in stabilizing the economy and restarting growth.

First, Latvia’s economy is now much less vulnerable. Current account deficits, which used to be over 20 percent of GDP, are now much lower: in 2009 and 2010 the current account was actually in surplus. The banking system is much more stable. Latvia has had problems recently with the failure of a local bank, Latvijas Krajbanka. But even though we believe the situation could have been handled better, it was not as destabilizing as when Parex Bank went bankrupt in late 2008.

Second, the exchange rate peg has survived. At the start of the program, many feared that if Latvia’s peg fell, others would fall too, spreading the crisis from Latvia to the rest of central Europe. So Latvia’s strong efforts back in 2008 and 2009 helped protect central Europe from...