Latvia’s 3-year Bailout Program Comes to an End

By Gary Peach (December 22, 2011)

A 7.5 billion euro ($10 billion) bailout program that helped Latvia avert bankruptcy came to an end Thursday, a three-year journey that saw the tiny Baltic nation suffer one of the worse recessions on record.

“The Latvian people has overcome the biggest financial crisis in the history of restored Latvia, and Latvian society can be proud of its common achievements,” said Prime Minister Valdis Dombrovskis, who took over the government in March 2009, just three months after the bailout program was signed.

Following four years of head-spinning growth, when gross domestic product expanded 50 percent, Latvia’s economy in 2008 started to nose-dive. The property market bubble burst, forcing the government to take over the second largest bank, Parex — a task that turned out to be beyond its financial abilities.

The Baltic state turned to the European Union and the International Monetary Fund, who pledged bailout funds in return for painful austerity measures such as drastic budget cuts. Thousands of public servants were laid off, and the health and education systems were overhauled.

The bailout was criticized by many economists, including the Nobel-prize winning U.S. economist Paul Krugman, who claimed that austerity was the wrong path and Latvia should instead devalue its currency to restore economic competitiveness.

Others, however, argued a currency devaluation would destroy Latvia’s banking system and force other economies — such as Lithuania — to enact similar policies. Nordic governments such as Sweden were vociferous opponents of a devaluation given their banks’ high exposure to the Baltic economies. They too signed onto the bailout program and offered hundreds of millions of euros in funds.

Regardless, the economy tanked, with GDP contracting 23 percent over 2008-2010, while unemployment reached nearly 25 percent. Tens of thousands of people left Latvia, which has a population of 2.2 million, many going to Ireland and the U.K.

“These three years have not been easy for any of us, but together we managed things so that Latvia is exiting the crisis with a far more balanced economy, public administration and public finances,” Finance Minister Andris Vilks said.

Latvia’s government said it ultimately used only euro4.4 billion — or nearly 60 percent — of the loan during the three years it struggled to bring its budget deficit down from about 8 percent in 2008 by raising taxes and slashing expenditures.

The country has seen its credit ratings improve somewhat, and last summer it returned to international capital markets, issuing $500 million worth of 10-year bonds. GDP is expected to grow about 4.5 percent this year, according to forecasts, while next year’s budget deficit should drop to 2.5 percent of GDP.

Latvia’s government is aiming to adopt the euro in 2014.