I would like to tell you more about the place where I am from. Latvia offers great nature, kind people and marvellous food, but this article won't be about these things. I have a background from corporate law and governance, therefore for some economists this article might seem 'too simple', but I encourage to comment and share your views with me. With several graphs I will provide overview of economic situation in Latvia. The goal of this article is to illustrate how Latvia is doing from economic stand point. Since this is such a broad field, the focus will be on the main economic areas.
In past Latvia positioned itself as a bridge between East and West, however this is not the case anymore. Several officials have expressed that Latvia is not the bridge between East and West; instead, the country should be considered as an equal member of 'luxurious Western country group'. For me, the statements of officials do not matter as much as economic indicators and milestones that country has achieved. More on that now.
What is Latvia?
For those of you who came across this post and don't know what is Latvia, I will give you brief introduction. Latvia is a country which geographically is located in Eastern Europe between Estonia and Lithuania and right across the Baltic sea is located Sweden (shout out to ASAP Rocky). Short history: The Republic of Latvia was proclaimed independent nation in November 18, 1918. In 1940 Latvia was occupied by USSR and after 51 years of occupation, Latvia restored independence in 1991. Therefore 1991 is the starting point of economic development of Latvia.
The most important milestones for Latvia since 1991 are: Member State of NATO and European Union (since 2004); Member of Euro zone (official currency in Latvia is Euro); Member of OECD; National football team played in Euro cup in 2004 :) Obviously, there are other great achievements (winning Eurovision song contest in 2002 (Marija Naumova)), but the purpose of this article is to illustrate macroeconomic situation in country and not to brag about our great achievements in so short period of time.
Macroeconomic data of Latvia
According to macroeconomic data, economy of Latvia is developing, and country is following strict fiscal policy to avoid economic instability. Inflation in Latvia in 2018 was 3,0% while GDP growth rate of Latvia in 2018 was 5,3% which is one of the highest growth rates among EU Member States. Data which illustrates that Latvia runs balanced budget and has no (or very few) macroeconomic imbalances is that country’s debt ratio to GDP is 40% while average in EU Member States is 81,6% of GDP, with the highest being 178% in Greece and the lowest — 9% in Estonia. Another data which shows that economy of Latvia is stable is that budget deficit of Latvia is at low 1% of the GDP being one of the lowest across EU Member States. Further I would like to present several graphs which will illustrate economic situation and development of Latvia.
Figure 1 illustrates GDP per capita (constant 2010 USD) in Latvia, Estonia, Lithuania, Greece, Portugal and Czech Republic. I chose these countries to illustrate the pace of economic development of Baltic States. Current GDP per capita in Latvia is USD 16,4K which is slightly lower than in other Baltic States, but the pace and scale of economic development is very similar in all Baltic States. Figure 1 illustrates that Latvia, along with other Baltic States, is catching up Southern countries. It is only fair to compare Latvia with the most developed economies of EU as well and illustrate that there is still a room (quite big) for development:
Because of geographical position, educated and relatively cheap labour and low real estate prices Latvia has developed its status as a great place for business relocation or shared service centre opening within European Union.
Unemployment rate in Latvia is 6,9% which is slightly above EU average — 6,6%. In reality this translates to approximately 70 000 unemployed people who are looking for the job at the moment. According to OECD data, level of education in Latvia is above average in EU if compared with data of mathematics performance, reading performance and science performance.
The average gross monthly salary in Latvia is EUR 1022. Industry specific salary in Latvia is:
- Financial and insurance activities — EUR 2020 (gross monthly);
- Information and communication (IT) — EUR 1549;
- Electricity, gas, steam and air supply– EUR 1373;
- Public administration and defence — EUR 1226;
- Mining and quarrying — EUR 1163;
- Professional, scientific and technical activities — EUR 1114.
Labour taxes in Latvia are very similar to other EU Member States. I will illustrate them by presenting salary computation with gross monthly salary of EUR 2000,00.
- Total cost for employer: EUR 2482
- Social Tax (employer contribution): 481,80
- Business risk fee: 0,36
- Social Tax (Employee): 220,00
- Personal income tax: 365,99
- Gross salary: 2000
- Net Salary: 1414,01
Figure 4. illustrates that employment rate in Latvia reached the highest point in October, 2018 and it is expected that it will increase in the future as well. Labour shortages will be the main reason for slow(er) economic growth in the following years. Labour shortages will affect industries where productivity is low, and salaries are below average, and it may result in pressure to raise wages which further will result in reduction of ability to export and loss of competitiveness. Real wages, which is the average wage adjusted to inflation, increased by 7% only in 2018.
One of the current problems in Latvian labour market is that public institutions (government) are competing for the same resources as the private sector and it does not allow for private sector to develop as fast as it could and bring more income to the private companies in terms of profit and to the state in terms of tax revenue.
Figure 6. is something Latvians should worry about, because it clearly illustrates the increase of employment and decrease of population. Further, Figure 7 shows more troubling tendecy. It illustrates that currently there is a huge difference in population among age groups. Respectively, there is a difference of 60,000 between age group of 55–59 and 15–19. This difference is troubling because 15–19 are the ones who will enter the labour market, while 55–59 is the group who should start retirement. Obviously, these groups don't directly engage, as there are still other groups in-between, however, this could be one of the reasons for future macroeconomic instability because of rapid increase of wages and loss of competitiveness described above.
The main sector of business in Latvia is services sector which contributes to 75% of GDP and employs 68% of employed people in Latvia. This mainly includes financial sector, IT and communications, legal services, etc. It is followed by industry sector which contributes 21% of the GDP and employs approximately 25% of employed people in Latvia. Industrial sector is expected to increase due to the current real estate market development. The agricultural sector in Latvia contributes around 3% from GDP and employs 7,7% of employed people. Source of data: World Bank.
Considering the fact that Latvia is a member of Euro Zone and we are not able to use currency to improve competitiveness, price development in Latvia can’t be too high. Current inflation rate of Latvia is 3,2%. Figure 7 also illustrates that price stability is not a risk factor in Latvia, because since [economic recession] in 2008, inflation hasn’t gone higher than 4,9% in 2011.
Government 10y bond interest rate (or yield) currently is at low 0,55 rate which illustrates that markets do not expect any instabilities (and high inflation) in close future.
At the moment economic situation in Latvia is stable. The most significant problem which country will face will be related with shortage in labour force which might result in loss of competitiveness in several industries. However, this is the problem which will face several EU Member States; therefore, loss of competitiveness won’t be only in Latvia.
I expect to see more pressure on development of programs allowing to accept labour from less developed countries and to solve upcoming problems which will occur due to the shortage of local employees.
As I mentioned in the beginning, there are many fields to analyse in order to determine overall macroeconomic situation of country and I will focus on several of them in my future posts. However, I hope that this article provided some useful insights to readers who didn't know much about Latvia as well as to those who are more familiar with situation in here (Latvia).
I spend my days developing company Gate to Baltics which specialises in corporate law and market research in Baltic States.