Analytics, Economics, EU – Baltic States, Latvia, Modern EU

International Internet Magazine. Baltic States news & analytics Wednesday, 18.09.2019, 14:53

Latvian issues in progress: EU’s vision for the country’s growth

Eugene Eteris, European Studies Faculty, RSU, BC International Editor, Copenhagen, 07.06.2019.Print version
There have been recently a couple of high-rank advises for the Latvian government for a progressive development: some voluntary, like that of OECD last month, some compulsory, like the present approved by the Council of the European Union. It’s difficult to see which of these two are more important, but both can actually serve as a background for Latvian planning process for at least next two years.

The Council’s opinion has an important role in both the EU economic integration and in “regulating” the member states’ economic progress. It is known as the “voice of the EU member governments” because it adopts the EU laws (together with the European Parliament, based on proposals from the Commission) and coordinates the whole spectrum of EU socio-economic policies practically implemented in the member states. Last but not least, the Council adopts the annual EU budgets, i.e. also jointly with the European Parliament.


More in: https://europa.eu/european-union/about-eu/institutions-bodies/council-eu_en#overview

 

As to the OECD’s recommendations for Latvia, see two articles: Eteris E. “Tackling Latvian economy and sustainability: OECD’s assessment. 03.06.2019. In:

http://www.baltic-course.com/eng/modern_eu/?doc=149553&ins_print; and OECD’s review shows Latvian main problems”. 04.06.2019. In:

http://www.baltic-course.com/eng/editors_note/?doc=20581&ins_print;


Modern Latvian situation

General overview. Latvian Reform Programme - 2019 and its Stability Program are presently in the rank of a “preventive arm” of the Stability and Growth Pact. Latvian government plans to improve the headline balance from a deficit of 1.0% of GDP in 2018 to a deficit of 0.5% of GDP in 2019 and 0.4% of GDP in 2020 and 2021. Based on the recalculated structural balance, the medium-term budgetary objective, set at a deficit of 1% of GDP in structural terms, is planned to be reached in 2019.


According to Latvian Stability Program - 2019, the general government debt-to-GDP ratio is expected to decrease to 33.1% of GDP by 2022. The 2019 Stability Program’s GDP growth projections and possible risks to the budgetary position are regarded as “balanced”.


The 2019 country report for Latvia (published at the end of February 2019) is addressing the country-specific recommendations adopted by the Council in July 2018; the follow-up steps were adopted in previous years for Latvia's 2020 progress’ targets.


The assessment of the National Reform Program and Stability Program has shown that Latvia has achieved its medium-term budgetary objective in 2019, taking into account the allowances linked to the implementation of the structural reforms for which a temporary deviation is granted.


This is consistent with a maximum nominal growth rate of net primary government expenditure of 4.8% in 2019, corresponding to an improvement in the structural balance by 0.2% of GDP. Based on the Commission 2019 spring forecast, Latvia is expected to be close to its medium-term budgetary objective, taking into account the allowance linked to the implementation of the structural reforms for which a temporary deviation has been granted too.


However, the Council is of the opinion that Latvia has to take further measures (during 2019-20) to comply with the EU stability and growth provisions. It mentioned some of the negative aspects: “government decision-making is still perceived to be influenced by favoritism and the procurement process as susceptible to corruption due to lack of transparency, in particular in municipalities and state-owned and municipal enterprises” (here and below are citation from the Council’s recommendations).


For example, the Council thinks that “legislative amendments on conflict of interest regime may give rise to abuses” and that the “recently adopted Code of Ethics does not cover politically appointed persons”.

 

More in: Council’s recommendations on the Latvian 2019 National Reform Program of Latvia and a Council opinion on the Latvian 2019 Stability Program in:

https://ec.europa.eu/info/sites/info/files/file_import/2019-european-semester-country-specific-recommendation-commission-recommendation-latvia_en.pdf

 

Taxation issues. Important considerations have been voice by the Council concerning the taxation spheres. Thus, the Council stressed that tax revenue in Latvia as a share of GDP has been lower compared to the EU’s average; this limits to some extent the delivery of public services, in particular healthcare, and social inclusion. Capital and property are relatively undertaxed and the freezing of the values used to calculate land and property taxes will reduce their revenue further.

At the same time, the tax burden on labour remains high for low-wage earners relative to the EU’s average, despite having been reduced. The share of the shadow economy appears to have declined over the past years by different estimates. Nevertheless, the share of under-reported economic activity is higher in Latvia than in other Baltic States. In particular, underreporting of salaries (so-called “envelope wages”), particularly in the construction sector, accounts for a large share of the shadow economy.


Following the closure of its third largest bank due to allegations of money laundering, Latvia tightened the regulation concerning non-resident clients. As a result, nonresident deposits, which are the main source of money laundering risk in Latvia, have significantly decreased since May 2018, but challenges regarding fighting money laundering remain. Moreover, Latvia has come up with a detailed action plan for improving its anti-money laundering/counter terrorist financing strategy. The main priorities listed in the action plan include enhancing risk-based supervision, ensuring the required human resources for the supervisory authorities, and ensuring effective information exchange and collaboration among the investigative authorities and with the private sector.

 

Social protection. The Council said that Latvia was facing challenges on delivering on several of social protection and inclusion principles in line with the European Pillar of Social Rights. “Income inequality in Latvia is high, as the redistribution through the tax-benefit system is low”, the Council said. The adequacy of social benefits remains low and the impact of social transfers on poverty and inequality reduction is limited. The poverty risk among the elderly and the people with disabilities is both relatively high and increasing due to benefits not keeping pace with wage growth: the social exclusion rate for the elderly was 49.0% in 2018 (with the EU average at 18.2% in 2017) and for the disabled people with disabilities 40.7%, with the EU’s average at about 30%.  


The state social security benefit for people with disabilities and minimum old-age pensions, have not been revised since 2006. The minimum income level reform, announced in 2014, has not been implemented, which negatively affects the poorest households. Access to long-term care also remains weak. Investments are thus required to address social exclusion, including food and material aid for the most deprived. Moreover, investments, including infrastructure, are needed to improve access to childcare, long-term care, employment and other social services, and to enable integration of health and social services, including the transition from institutional to community-based care.


The share of people facing severe housing deprivation is among the highest in the EU: about 15% in Latvia versus 4.0% in average in the EU, and the social housing is scarce. Hence the Council conclusion is that “investment is needed to improve the provision of affordable housing”.

 

Science and research. The Council underlines that Latvia invests little in research and development though the investment into innovation is important. Presently, Latvia’s share of expenditure on research and development is among the lowest in the EU, the negative figures have been rather stable over the past decade. Moreover, research funding relies almost entirely on various EU funds. As a result, Latvia is a “moderate innovator”, although with some strong points in ICT infrastructure (but its performance lags behind in human resources, in public-private sector cooperation and in investment in intellectual property). Reference to:  

https://ec.europa.eu/info/sites/info/files/file_import/2019-european-semester-country-specific-recommendation-commission-recommendation-latvia_en.pdf  

 

 Regional problems. The Council attracted Latvian government’s attention to regional disparities:  it is known about significant economic differences between Riga metropolitan region and other Latvian regions which have led important investment gaps. A “slow motion” in this governance sphere in Latvia, i.e. the growing gap in socio-economic performance between the capital and other regions “has not narrowed since the country’s accession to the EU”, underlined the Council.  

Besides, the Council added, there is a considerable difference in competitiveness and quality of public services among Latvian regions, which in great deal is influencing their territorial attractiveness.


The Council’s advice is: budget investments “should therefore address significant regional differences in mobility and digital infrastructure”; gaps in connectivity in the Trans-European Transport Network and with peripheral and border regions are still extremely high, the fact that is having a negative impact on Latvia’s economic activities, FDI and exports.


Investments gaps also exist to complete the Rail Baltica project and the key electricity infrastructure projects that form part of the Baltic energy market interconnection plan.


Additionally, investment in resource efficiency is also needed in order to speed up Latvia's energy transition. Finally, mentioned the Council, more efforts were needed to improve national overall energy efficiency, in particular in the residential and transport sectors.

 


Council’s four recommendations for Latvian governance

Final “remarks” from the Council, which shall be regarded as compulsory for the national decision-makers, are connected with the following “demands”:

1. Ensure that the nominal growth rate of net primary government expenditure does not exceed 3.5% in 2020, corresponding to an annual structural adjustment of 0.5% of GDP. Reduce taxation for low-income earners by shifting it to other sources, particularly capital and property, and by improving tax compliance. Ensure effective supervision and the enforcement of the anti-money laundering framework.


2. Address social exclusion notably by improving the adequacy of minimum income benefits, minimum old-age pensions and income support for people with disabilities. Increase the quality and efficiency of education and training in particular of low-skilled workers and jobseekers, including by strengthening the participation in vocational education and training and adult learning. Increase the accessibility, quality and cost-effectiveness of the healthcare system.


3. Focus investment-related economic policy on innovation, provision of affordable housing, transport notably on its sustainability, resource and energy efficiency, energy interconnections and on digital infrastructure, taking into account regional disparities.


4. Strengthen the accountability and efficiency of the public sector, in particular with regard to local authorities and state-owned and municipal enterprises and the conflict of interest regime.

 

Note: Our magazine fully supports the Council’s recommendations, as well as a previous (a week ago) “advice” from the OECD experts concerning the main “reforming agenda” in the Latvian governance and political economy. We don’t think that Latvian elites need any more external advices! The magazine’s staff wishes the Latvian government quicker and resolute reaction to these recommendations with visible results.  






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