Page last updated at 11:37 GMT, Thursday, 4 February 2010

Latvia economy reels in recession

By Damien McGuinness
BBC News, Riga

Empty shop windows in Riga, February 2010
Scores of empty shop windows now line the streets of Riga

Wrapped in furs, the ladies of Riga stride impressively across ice-covered streets on perilously high heels. Unfortunately Latvia's economy is not looking quite as confident.

It's been Latvia's coldest winter in two decades, with temperatures of -30C causing a surge in cases of frostbite.

The sheet of ice covering the country is an apt reflection of the frozen state of Latvia's finances.

Until 2007 this Baltic tiger was breaking economic records, from highest growth to fastest wage increases.

Today, more than a year after the financial crisis burst the bubble of easy credit, the tiger has lost its roar. And although the tiny country is still setting records, now it is for all the wrong reasons.

Unemployment, at almost 23%, is the highest in the European Union. And over the last two years economic output has dropped by almost a quarter.

Deserted shops

The mood is resigned, with barely a street in Riga without a closed shop and all but the cheapest restaurants standing empty.

In a renovated 19th Century cobbled courtyard, stores sell minimalist furniture at not-so-minimalist prices. Every shop is deserted and in one, a chicly dressed shop assistant is slumped asleep across the counter.

The government is not doing anything to support businesses or create jobs
Yevgenijs Karelins, protester

No surprise, considering that in 2009 retail sales in Latvia dropped by almost 30% - another European record.

This dire state of affairs has been exacerbated - even the government admits - by government policy: a tough programme of austerity measures and spending cuts to balance the budget after years of overspending.

As wages have dropped, people have spent less, which in turn has made the recession even worse - the last thing Latvia needs, some say.

Fiscal toughness

"Fiscal consolidation was unavoidable," said Latvia's Prime Minister Valdis Dombrovskis. "It would have been wiser to do it during the boom time."

"Unfortunately we are forced to do it now, knowing that it's just worsening the recession. But if you don't have financial stability, you can't have financial recovery."

Latvian Prime Minister Valdis Dombrovskis after a press conference  castle some 70 km from Latvian capital Riga on January 22, 2010
Mr Dombrovskis has brought in tough spending cuts

Unlike other countries trying to boost economic growth by spending their way out of recession, Latvia has taken the opposite route and is effectively shrinking the economy.

"Only countries with reasonable fiscal policy during the boom times can now afford fiscal stimulus. Latvia's budget was not balanced even when we had double-digit growth," explained Mr Dombrovskis.

For the 2010 budget the Latvian parliament has passed tax increases and spending cuts of around 700m euros (£610m).

The International Monetary Fund is impressed with Latvia's fiscal toughness. In fact it was exactly these harsh measures which were the preconditions for the IMF-led loan rescue package of 7.5bn euros.

Financial markets also appreciate the efforts Latvia has made to calm their jitters about the country's economic stability. If the government stays the course with its fiscal consolidation programme, Latvia's credit rating may improve.

Camping protesters

But for many Latvians themselves lower wages and worsening public services are disastrous. Some teachers have seen their wages halved and hospital budgets will be cut by 40% this year, making many medical operations simply no longer possible.

Protester Yevgenijs Karelins in front of tent
Protester Yevgenijs Karelins' transport business went bankrupt last year

Braving freezing temperatures and knee-high snow, protesters are showing their dissatisfaction by camping in a dozen tents in front of the prime minister's office in Riga.

They have been here day and night for most of the winter and intend to stay until October's elections.

"The government is not listening to us," explained one of the organisers, 24-year-old Yevgenijs Karelins, rubbing his hands over an open log-fire. His transport business went bankrupt last year. "They are not doing anything to support businesses or create jobs."

Some economists agree. "The government is ignoring the one policy which would work, which is devaluation," said Alf Vanags, economist at the Stockholm School of Economics in Riga. "That would make Latvian goods comparatively cheaper, and so boost exports."

But Mr Dombrovskis' government is committed to keeping the Latvian currency pegged to the euro. It has become an article of faith and is seen as the best way to gain accession to the euro by 2014.

'Stoic' Latvians

Devaluing the currency, the argument goes, would make mortgage repayments too expensive for the high number of Latvian homeowners who have loans in euros.

But according to Alf Vanags, if real wages sink, then homeowners will see the real cost of their debts rise anyway.

For now, though, currency devaluation is not on the agenda, and the government is determined to continue with its severe austerity programme.

Latvians so far have been stoical about the tough measures, and recently there have been none of the riots which brought down the government a year ago.

But with a general election planned for October, and support for Mr Dombrovskis falling, voters could well show their discontent in the polling booths instead.

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