FDI and the business climate in Latvia

  • 2004-12-09
  • Vladimir Solomatin, partner partner at Bridge Capital Finance Group
RIGA - As the news agency LETA has reported, foreign direct investment in Latvia exhibited an abnormal growth of 92.5 percent and reached $3.2 billion in the first nine months of 2004. A majority of the investment came form EU countries - Sweden, Germany, Denmark and the U.K., though other large investors such as Russia and the U.S.A. figured prominently as well. Foreigners are interested in transportation, communications, finance and trade.

Undoubtedly, investors are attracted by Latvia's strong macroeconomic environment: GDP growth of 7 percent per year, which is correlated with an increase of disposable income and higher availability of credit. The rise in inflation is mainly associated with structural changes connected with entering the EU and presents a temporal effect rather than a long-term trend.

Latvia's 2004 investment boom is closely related to EU and NATO integration together with nine other countries. Foreign investors benefit from operating in a single economic and legal area but also from lower taxes, cheaper labor and a liberal trade policy.

Latvia's foreign policy also creates an attractive investment climate for foreign investors. Under the Foreign Investment Act, there is no difference in the treatment of domestic and foreign investors and almost no restrictions on foreign investments, despite several restrictions on security services, gambling and lottery and air transport. According to EU and WTO requirements, there are no screening on foreign investments and no restriction on repatriation of profits. In addition, a company registered in Latvia or a foreign individual may buy state land freely if they come from countries that have signed bilateral agreements with Latvia.

Solid steps were made to protect copyrights and trademarks, software copyrights and neighboring rights as well. However, there are drawbacks in the operation of Latvia's judicial system, for example concerning tax dispute resolutions.

One of the recent trends in foreign investments is the movement of production facilities from north European countries to Latvia. Foreign investors are seeking lower costs and a qualified labor force. In Latvia, the enrollment in higher educational institutions is increasing continuously and is around 400 students per 10,000 inhabitants. Labor costs are four to 10 times lower than in EU countries.

In taxation, the corporate tax rate in Latvia is 15 percent. By comparison, the largest investor countries - Germany and Sweden - have to pay 40 percent and 28 percent - 33 percent respectively. There are tax incentives on big investment projects (above 15 million euros), a tax shield on losses carried forward for five years and a loss transfer within the group and tax rebates on investment in agriculture.

There are four free economic zones in Latvia that are located at its biggest ports, where companies may get 80 percent - 100 percent of tax exemptions on corporate tax and real estate tax. In comparison with neighboring countries, where only Lithuania has free trade zones.

In order to set up a company in Latvia, an entrepreneur has to pass seven procedures. He can register the company in 18 days - the fastest such process among the Baltic countries, since Lithuania and Estonia have more registration procedures (registration can require 25 - 72 days). Property in Latvia may be registered in two months and requires 10 procedures. In Estonia the situation is similar, but in Lithuania property may be registered in 3 days.

The further capacity to sustain the surge in FDI will depend on continued structural reforms with an aim to increase productivity and production capacity and to encourage innovation and research.