Latvia: maintaining sustainable growth after the boom-bust years

Latvia had been keen to join the euro area at the earliest opportunity, with entry in January 2008 the clear target. As the economy overheated, however, significant macro-economic imbalances accumulated which deferred these plans. Between 2005 and 2007, unsustainable GDP growth went hand in hand with a mounting current account deficit and a housing market spiralling out of control. When credit flows then abruptly reversed, the countryís GDP contracted dramatically. Latvia was placed in the EU/IMF-led financial assistance programme and was forced to carry out ambitious fiscal consolidation and structural reforms. Reallocating resources to the tradable sector was the first important step on the road to an exportdriven recovery. Under the burden of deleveraging and consolidation, the revival of domestic demand was slow at first. From 2011, however, supported by favourable labour market developments, growth in demand has accelerated. Latvia has reclaimed its position as the fastest-growing EU economy, however, the current level of growth is lower than the unstainable rates recorded in the boom years, and it is now seen as sustainable. Thanks to this balanced growth, Latvia has not been subject to the MIP since its launch in 2012. Despite the financial assistance-supported measures to preserve equity, the social burden of economic adjustment, as evidenced by poverty, social exclusion and emigration rates, has been high, but measures are being taken by the authorities to counter these effects. Continued commitment to prudent fiscal policies will be critical for the countryís economic future. The use of macro-prudential tools to reduce the risks posed by large non-resident financial flows, and the implementation of ambitious structural reforms will also play an important role.