The IMF believes that Latvia will be able to pay back the loan

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1 The IMF believes that Latvia will be able to pay back the loan The International Monetary Fund (IMF) has not started any particular talks with Latvia about the repayment of the international loan, which Latvia will have to start paying back already in 2012, but senior adviser in the IMF s European Department Anne Marie Gulde-Wolf, who also headed a mission to Latvia in 2009, believes that Latvia will be able to implement the program successfully and start paying back the loan. The fallback would be to design a successor program that would extend the repayment period and support the necessary further economic adjustment. In an interview with business portal Nozare.lv she acknowledges that the Latvian government has taken difficult measures to maintain fiscal stability, but not all that was necessary has been fully accomplished, and further structural reform is necessary. The IMF does not want to talk about exact measures, pointing out that this will be a political decision. You are responsible for overseeing all of the IMF s work on Latvia, including in 2009 when the situation in the country was very difficult. What is the current situation in Latvia in the IMF s view? Is it still difficult? It is a question about whether the glass is half full or half empty. I think we can say now that the glass is half full: The economy is expected to grow in 2011 and unemployment it starting to decline. At the same time a sustainable fiscal situation is necessary to allow the country to continue its economic strategy, set the basis for sustainable policies and adopt the euro as planned. Consolidation measures that have been taken up until now have the country already moving toward fiscal stability. Still, challenges remain. In particular, there are questions about the 2011 budget. It has been approved by the parliament, but new additional measures are necessary to lower the budget deficit in line with the country s euro adoption strategy. It will be difficult, but if clear decisions are taken at the political level, then Latvia will succeed. In the middle of December European Commission together with the IMF released an announcement where pointed out that Latvia will have to do additional consolidation measures in amount of 50 million lats in this year s budget. Why exactly 50 million and in which spheres do you see possibilities for the consolidation? The number for the necessary additional consolidation comes from evaluating the current situation in the budget so that Latvia can move to its own set target for adopting the euro. But the number 50 million lats has to be viewed as the minimum if you want to be sure that in 2012 you will be able to reduce the budget deficit below 3% of GDP, and sustainably so. Given the difficulties of predicting exact fiscal outcomes I think Latvia should be conservative in its policies, so that not only the IMF but also other program partners and fellow European Union countries are reassured that Latvia is really working on an economic program that is consistent with stabilizing the economy and the fiscal accounts, and with these sound policies laying the foundation for euro adoption. This is the Government s declared target and I believe that the Government is committed to achieving it.

2 2 The international lenders will talk to the Government, which during 2010 had prepared a variety of possible measures to achieve this adjustment. I do not want to discuss exact measures, because, in the end, it is a political decision about where the Government believes the adjustment needs to be taken. But I want to stress that any fiscal measures should be structural, not one-off measures, so the reforms carried out today would help the state to consolidate the budget in the coming years as well. If not exact measures, then in which sectors does the IMF see possibilities for consolidation? Those should be sectors that form a significant part of the state budget and GDP, including areas where spending rose rapidly during the boom, and where it is possible to improve effectiveness. I think health care along with education system are areas where reforms should continue, to improve the quality of health and education for the Latvian people. I do not want to mention specific measures in these or other sectors, but we have to look at the largest elements forming the budget and understand how to make them more effective. The Government has spoken about it last year as well, but it is necessary to gain agreement in coalition. You have pointed out previously that consolidation measures have to be balanced with economic activity, not to slow it down. In case of Latvia there are experts who say that we have chosen measures that do not increase activity of the economy but on the contrary. For example, we have raised taxes. The IMF generally thinks it is best to do the budget consolidation on the expenditure side, not by raising taxes. Besides, the measures have to be sustainable in the long term. But in some cases, such as in Latvia, when consolidation is very large there may also be a need for some tax increases. When looking at which taxes to adjust, one consideration would be to see if there are taxes that do not have an immediate impact on consumption (such as for example taxing real estate). That said, I should also point out that despite the sizeable fiscal adjustment, Latvia s economy is recovering reasonably strongly. By boosting confidence and lowering interest rates, consolidation can sometimes help economic activity. IMF program in Latvia will finish this year and starting from 2012 we will have to pay back the borrowed money. What are the scenarios if we can t start paying back the debt? There are many countries that have successfully carried out IMF programs and we expect Latvia to do so, although repayment does depend on the economic situation in the country. If the recession carries on and the economic situation does not allow Latvia to start paying back the international loan, there is a possibility to design a successor program that would extend the repayment period and support the necessary further economic adjustment. But more likely, Latvia will be able to refinance in the markets. How do chances of Latvia look like from the current point of view will we be able to pay back the loan?

3 3 We have not discussed details with the Latvian Government, but the program was designed to stabilize the Latvian economy and so that the state could pay back the loan. The IMF would not have started a program with Latvia if there had been doubts about Latvia s ability to pay back the loan. And, as you know, out of the 7.5 billion initially pledged Latvia has only had to draw 4.3 billion, so prospects for repayment are strong. The burden is much less than we had been prepared for at the start of the program. How will you ensure that we keep observing the fiscal discipline? The IMF works with countries even if there isn t a specific program. For those countries the IMF has been helping there is post-program engagement and intensive discussions held with the government. There would not be formal conditions, but there would still be cooperation with the country as it continues to settle the situation. With such discussions we will work hard to help Latvia to keep fiscal discipline, but responsible fiscal policy is ultimately to be ensured by the Latvian government. So we can count on active IMF monitoring also after 2012? Yes. The IMF cooperates with all countries, but with those where there have been IMF programs is it more intensive, regular and deeper. What are the possible further consolidation measures from political point of view? In Latvia there should be a number of possibilities because expenditure grew very rapidly before the crisis, but it will still require difficult choices to return to the previous level. While not mentioning any in particular, expenditure has grown disproportionately in some areas. But I want to point out that it is not only a question of cuts, but restructuring and reform to ensure sustainability. This truly is a challenge, but I am confident Latvia can meet it. The IMF mission will arrive in Latvia in February. If Latvia by then will not have decided on additional measures for the 50 million lats consolidation, is there a possibility that the IMF stops the program? While a technical assistance mission is planned for February, the timing of the next mission to discuss the program is not set yet. We hope it might take place in the near future and that we can reach conclusions on implementation of the program. If we do not gain agreement though, we will not turn our back on Latvia, and will hope to continue our strong cooperation with Latvia. Still, Latvia will not be able to receive next part of the loan before there is agreement on the unfinished work. [LETA editor: This year for Latvia there are available 600 million euros from the IMF and 200 million euros from the European Commission. Currently a new loan is not planned except 100 million euros from the World Bank.] Has the IMF set any deadlines by when we have to do the additional budget consolidation of 50 million lats?

4 4 There aren t any exact deadlines, but the measures have to be in this year s budget. Technically, of course, Latvia could do this in December, but saving 50 million lats in one month would be extremely difficult. Also the international financial markets would notice the delay and it will be much more difficult to refinance in the markets. Latvia has to understand that by doing the consolidation earlier, it will be much easier to gain the trust of financial markets, and for Latvia to demonstrate to its partners that it is implementing sound policies. And once the painful measures are out of the way, you can be a lot more optimistic about the future. The experience of the IMF shows that by doing these measures quickly the result is better and more sustainable. A number of foreign experts have expressed their surprise at the pace Latvian society perceives measures carried out by the Government. Is it a surprise for the IMF as well? I don t think it is a surprise for us, but certainly a positive aspect. I would want to believe that it is because there has been a good communication process and the society in general understands why the adjustment is necessary. It has been a very difficult period, but there has been good leadership during this time, which has helped too. How does the economic recovery look now in the CEE region? Which countries are doing best? It depends on what indicators we are looking at. Poland is recovering very well, Czech Republic also. Most of the countries were able to show growth already in 2010, including Latvia, if we look at the GDP growth quarterly. The region is recovering faster than we expected, but it is important to keep to the reform path even if the first good news is arriving. It would be very risky to lean back in the chair and relax, because there still are risks in the international environment and there is still a large amount of uncertainty. [The following comment, additional information, was provided by LETA: At the end of 2008, agreement on financial support to Latvia totaling 7.5 billion euros (5.27 billion lats) was concluded with the European Commission, the IMF, the World Bank, European Bank of Reconstruction and Development (EBRD) and several European Union (EU) member states. Financing of the international loan program is available in tranches until the end of 2011 to help stabilize the financial system of Latvia, restructure the Latvian economy by raising competitiveness of the state, and reduce the risks hindering economic development, and so creating the conditions for long-term growth. According to information available on the internet page of the State Treasury, as at December 2010, Latvia had received billion lats from the international loan. This comprised billion lats from the European Commission, million from the IMF, million from the World Bank, and an additional 64.4 million in EBRD investment in Parex bank subordinated capital and shares.

5 5 The repayment schedule provides that in 2012, more than 200 million lats have to be repaid to the IMF, but in 2013 already 390 million lats. There are three ways of repaying the state debt: by making the state budget with surplus and using this surplus to cover the debt, selling state assets (for example, two large assets Parex bank and Citadele bank ), as well as refinancing the debt with new loans in the financial markets.]

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