RIGA - The Latvian government's proposed budget, agreed at an Oct. 3 emergency meeting, will allay concerns the Baltic state may fail to comply with the terms of its international bailout, announced Prime Minister Valdis Dombrovskis (New Era), reports Bloomberg. Latvia has pledged to the group of international lenders to cut its budget by 500 million lats (714 million euros) a year until 2012 to bring its deficit within 3 percent of GDP, a target it is stretching for to be able to adopt the euro.
The government now argues it can instead achieve next year's agreed 8.5 percent deficit target by cutting its budget by 325 million lats, through a combination of budget expenditure cuts of 225 million lats, and 100 million lats in new revenues from planned tax policy changes.
The Cabinet will push through spending cuts and tax increases needed to achieve a deficit equivalent to 8.5 percent of gross domestic product, promised Dombrovskis. "What we see is that our budget proposal ensures that we meet the budget deficit criteria," he said.
Swedish Finance Minister Anders Borg said, however, that the world is running out of patience "It will be very hard to continue with these international [loan] programs if [Latvia doesn't] fulfill the spirit and the content in the agreements they have signed," reported news site telegraph.co.uk.
Borg, at the IMF annual meeting in Istanbul reminded Latvia's leaders of the promises they agreed to in return for 7.5 billion euros in loans to help the country weather the financial crisis. "They made a very strong political commitment to perform a very responsible fiscal policy. They must deliver responsible fiscal policy in the budget for 2010. The international community's patience with the Latvians is limited, so they must behave very, very responsibly," he scolded.
Sweden's finance minister has recently warned that political signals from Latvia were "worrying." Lena Flores-Gual, the European Commission's director of economies of the member states, on Oct. 1 called on Latvia to "fulfill commitments made to the international community."
The country is implementing measures to reduce the deficit that include closing some hospitals, schools and cutting wages, said Dombrovskis. "This would be better for the economy and for social stability."
The Prime Minister is up against growing social stresses. "We are closing or reorganizing about 100 schools," even after plans led to protests, Dombrovskis said. "We have reduced wages in many sectors by 40 percent, for teachers, for policemen; many top paying jobs [now] get several times smaller salaries."
The government may consider selling some state-owned companies "if we see the market situation is right, or if we could get a reasonable priced offer." The state should look to sell more assets, including company shares, the utilities, state-owned forests, in effect restructure the economy for stronger future growth through private ownership, and to help budgetary problems now, say some economists.
Borg has warned over recent weeks of an "imminent economic collapse in Latvia," says Danske Bank's Lars Christensen. Christensen said Latvia's political class is chiefly responsible for clinging to the currency peg. "It's their choice, but if they want the bail-out money, they must do what they promised. They don't seem to understand that the IMF and EU are willing to walk away now that the global economy has improved and spill-over risks have been reduced," he said.
The People's Party, the largest group in the coalition, who last month voted against austerity measures in negotiating a budget, raise concerns that the country is ungovernable.
It was under Prime Minister Aigars Kalvitis' (People's Party) government that excesses in the economy built up, with easy bank lending driving up private debt and real estate prices to unsustainable levels, which have come crashing down.
"Prospects are grim whatever happens," says Christensen. "There is absolutely no sign of stabilization. The economy is still contracting. It's paralysis." Capital Economics' Neil Shearing believes that Latvia's economy will shrink by 30 percent, whether it devalues or not. The peg merely draws out the agony, and slows the pace of inevitable defaults.
Dombrovskis believes that the international lenders are "understanding" of the situation in Latvia, however, the most important discussions are still ahead, as another mission will arrive in Latvia in the first part of November.