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Lithuania: an attractive home for investment

  • 2005-01-26
  • By Kristine Kolosovska, partner at Bridge Capital
As an investment destination, Lithuania offers potential investors advantages such as a favorable geographical location, a long history of business cooperation with Russia and Poland, low operational and labor costs, a good transportation system and modern banking facilities.

ANALYSYS

Along with its Baltic neighbors, Lithuania continues exhibiting outstanding macroeconomic performance. The economy grew 6.8 percent in 2002 and 8.9 percent in 2003, followed by a somewhat lower but still healthy 6.3 percent last year. Whereas prior to 2003 the major growth contributor was increasing exports, the situation has now shifted toward a more significant input of local consumption. Direct investments grew by 12.4 percent, and exports grew by 19.4 percent in 2003, followed by 18 percent last year. Given the appreciation of the litas' effective exchange rate and the slowdown in the EU, these results look quite optimistic.

During the past 15 years, Lithuania made significant steps in improving its business environment and investment climate. Compared with its neighbors, Lithuania has the most liberal trade and investment policy. The country creates minimal restrictions on foreign investment, and in order to stimulate investment, a number of free trade-zones and industrial parks have been created.

Another source of funds is EU programs. They target mainly structural reforms, agricultural policy and infrastructure development. In 2000-2002 Lithuania received 126 million euros from PHARE, 90 million euros from SAPARD and 155 million euros from ISPA. After accession, the main sources of EU money structural and cohesion funds. Grants from those funds may amount to 3 percent of GDP, while total funds available for 2004-2006 are estimated at 769 million euros. Of that 208 million euros will come from agriculture support funds and ensure direct payments for the engaged in agriculture.

While acquiring EU funds, Lithuania would be a net beneficiary: Total payments are estimated at 147 euros per capita, and the total receipts at 535 euros per capita.

The role of the private sector in investment stimulation cannot be overestimated considering the government's tight fiscal policy. Major foreign investor countries include Sweden, Germany and the U.K., with Germany being the largest trading partner. Many investment projects became possible thanks to the sponsoring of Nordic banks, which ensured their capital in their Lithuanian subsidiaries. The major investment sectors are manufacturing, telecommunications and financial services.

With the abundant investment incentives for large foreign projects, there are complaints that incentives for domestic investment are lacking. Capital markets are still in their embryonic phase, and the market capitalization is below 10 percent of GDP; it appeared to be an inefficient tool for capital rising. On the other hand, equity trading is on the rise, with local indexes demonstrating impressive growth. Bank credits also remain a popular source of financing because of low interest rates and some tax considerations; however, start-up companies and new ventures have problems accessing adequately priced long-term financing. Public savings remain low, thus slowing a rise in living standards and wealth accumulation and fostering a dependence of foreign investments.

Therefore, Lithuania's further success in attracting investments will depend on the ability of the government to continue structural reforms, including tax and public administration, with the sensible distribution of EU structural funds. Much attention should be driven toward the enhancement of productivity, especially in the agricultural sector.

The tax environment is relatively friendly, with the company-profit tax at a low 15 percent. Some reports claim the effective tax rate is only 12.82 percent and, if all tax benefits are taken into account, the burden is only 6.65 percent 's the lowest rate in the EU. Though the income tax is considerably higher 's 33 percent 's overall tax levels are reasonable.

Still, the future of tax benefits is unclear as far as they contradict the EU's free competition principle. In 2005 the European Commission will review the existing benefits in new EU member countries, and some tax benefits may be banned.