Latvia: Latvia receives green light to become the 18th Eurozone country
June 5, 2013
On 5 June, the European Commission (EC) gave Latvia the go-ahead to adopt the euro in 2014 and thus become the 18th member of the Eurozone. According to the 2013 Convergence Report, the Commission concluded that the Baltic nation achieved a high degree of sustainable economic convergence in order to meet the criteria stipulated in the Maastricht Treaty.
Latvia's entry to the Eurozone comes after the country experienced the worst economic meltdown in its modern history during the 2008-2009 financial crisis, which forced the government to ask for an international bailout. The IMF and the European Union provided Latvia a bailout package worth EUR 7.5 billion, which helped the country to steer out of the recession and return to economic growth. Nonetheless, Latvia underwent one of the toughest austerity programmes, slashing the fiscal deficit from 9.8% of GDP in 2009 to 1.2% in 2012, well below the 3% threshold stipulated in the Maastricht Treaty. Moreover, the former Soviet republic cut its public debt from a peak of 44.4% of GDP observed in 2010 to 40.7% of GDP in 2012, which is also below the 60% ceiling established in the Treaty. Meanwhile, annual average inflation (measured by the Harmonized Index of Consumer Prices, HICP) slowed significantly from 4.2% in 2011 to 2.3% in 2012, and currently sits at 1.2% in May.
Based on its May forecasts, the EC expects that Latvia will maintain its fiscal deficit broadly unchanged at 1.2% of GDP this year, mainly reflecting a reduction in the income tax that started in January 2013, which should be compensated by a cyclical improvement in tax revenue. Simultaneously, a limited increase in expenditure is expected, according to Latvia's 2013 budget. Analysts polled by FocusEconomics expect the fiscal deficit to reach 1.5% of GDP this year, before narrowing to 1.1% in 2014.
Amid the protracted economic turbulences in the Eurozone, advocates for austerity in the common-currency area expect that Latvia's accession will send markets a strong signal of confidence and that, despite the ongoing sovereign debt crisis, the Eurozone is set to grow, rather than disintegrate. Latvia's formal membership still waits for final approval from Eurozone leaders at their summit scheduled for 28 June and from the European Parliament, before officials make the accession in July.
Author: Ricardo Aceves, Senior Economist