May 2, 2024
In the wake of Russia’s war of aggression against Ukraine, Latvia’s economic growth has slowed, as higher energy prices as well as trade and supply chain disruptions have reduced domestic demand and hampered the competitiveness of firms, according to the latest OECD Economic Survey of Latvia.
The OECD projects Latvia’s GDP to pick up to 1.8% in 2024 and 2.9% in 2025, up from -0.3% in 2023. Due to lower energy and food prices, headline inflation is expected to fall to 1.7% this year after 9.1% last year before settling at 2.3% in 2025. Lower inflation will support real incomes and private consumption, while substantial inflows of EU funds will help to boost public infrastructure investment. Wages will continue to grow strongly due to skills shortages as well as planned increases in public sector and minimum wages.
Latvia will need to pursue reforms to create the necessary fiscal space to deal with significant spending pressures in health, education, defence, and internal security as well as the additional public investment required to accelerate the green transition and increase energy security. Fiscal reforms will need to focus on improvements in spending efficiency, the reprioritisation of expenditure and increases in revenue from income, property, and environmental taxes. Gradually phasing out environmentally harmful tax expenditures, such as fossil fuel subsidies, while raising effective carbon prices, would also help. Updating cadastre values with market values of properties would help improve the finances of municipalities.
“Latvia had secured a strong recovery from the pandemic, when the war in Ukraine and the spike in energy prices caused a slowdown in the convergence of living standards to the OECD average. To secure sustainable increases in incomes and living standards, Latvia will need to boost its labour productivity in order to ensure its international competitiveness. Fostering business dynamism and the innovative potential of the Latvian economy will mean boosting investment by improving access to finance, reducing informality to ensure a level playing field among firms and removing entry barriers for businesses, especially in the services sector,” OECD Secretary-General Mathias Cormann said, presenting the Survey alongside Latvia’s Minister of Economy Viktors Valainis. “Latvia also needs to improve its public finances, to accommodate higher spending priorities and reduce fiscal upward pressure on inflation, while also ensuring a sustainable debt trajectory,” he said.
To raise the quality of public services and spending efficiency, Latvia needs to continue improving policy impact analysis, strengthening public governance and centralising public procurement and the governance of state-owned enterprises. The digitalisation of public services has significantly improved, reducing the administrative burden for firms and households. However, the use of data for policy impact evaluation remains weak, reducing the efficiency of public spending, for example in infrastructure planning. Ensuring that transparency regulations for public officials apply to all persons involved in procurement and spending decisions would help strengthen the fight against corruption.
Improving access to credit is a priority to raise investment. Recent reforms have significantly improved insolvency procedures and asset recovery as well as the fight against money laundering and corruption, but access to credit remains weak. Strengthening competition enforcement in financial markets and reducing barriers to customer mobility would help to reduce high lending rates and collateral requirements. Deepening capital markets by listing large state-owned enterprises and facilitating greater exposure of pension funds to domestic securities could further help improve access to finance.
Reducing informality and barriers to competition are other key priorities to foster investment and productivity growth. Strengthening tax enforcement, improving the quality of public services and continuing the fight against corruption to raise trust in institutions would help lower informality. Reducing the labour tax wedge for low-income earners, for example by reducing social security contributions at lower incomes while maintaining social benefits, would also help. State-owned enterprises play an important role in many services sectors, where entry barriers are high. To ensure a level playing field between public and private firms, Latvia should increase the power of its Competition Council to conduct market investigations and challenge administrative decisions that restrict competition.
Latvia needs to invest more in human capital and facilitate skilled immigration to address labour shortages. Encouraging more women to enter high skill professions and further facilitating skilled migration by fostering the use of English and other EU languages at work and reducing occupational restrictions would help. Expanding the supply of childcare facilities is needed to help more women enter the labour market. Establishing sectoral training funds would strengthen training provision among small firms.
Source: OECD
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