Excellences, Ladies and Gentlemen,
This is a great honor for me to speak in front of this audience of, allow me the expression, economy practitioners, the Danish community of top business executives.
Let me start my story with a short look back before we go to the main topic. I became Prime Minister of Latvia in March 2009 in full economic and financial crisis that, at different degree, hit all the three Baltic States. Certainly, that crisis was partly a consequence of the global economic developments, but at large extent we were victims of our own making. Politicians of so called “boom years” that followed the accession of Latvia to the EU in 2004 seemed to have forgotten the basic principles of gravity and one of the most popular slogans of these years was “No worries, pedal to metal”. Large inflows of financing, easy and often irresponsible crediting from commercial banks at some point really led to the question “Why work hard when one can easily live in speculating on real estate market?”. But like everywhere else, this euphoria was short lived. Crisis came in 2008, Latvian particularity, which explains why crisis in my country was particularly deep, was, in parallel with dismal economic developments, the run on the largest local commercial bank “Parex Banka” which was considered systemic and government had to bail it out in investing around one billion lats into this rescue operation.
To make it short, in Spring 2009 the economy of the country was in free-fall, all the “pedal to metal enthusiasts” have somehow vanished and nobody knew how deep is the abyss and what will happen in coming two-three months. Latvia, member of the EU, a country that just has graduated from the World Bank and has joined the class of donors at IDA, lending arm to the poorest countries within the World Bank group, had to turn towards the IMF and European Commission for a rescue package. I will not go too deep into this subject as my experience of the crisis management has warranted whole the book that we have written together with Anders Aslund, research fellow at Peterson Institute, a Washington D.C. based “think tank”. The title of the book is “How Latvia came through financial crisis”. You can find a full coverage of the Latvian crisis in this book. What I would like to focus on is rather how we see the future.
Alan Greenspan once said: “The more flexible an economy, the greater its ability to self-correct in response to inevitable, often unanticipated, disturbances and thus to contain the size and consequences of cyclical imbalances.”
During last three years Latvia has demonstrated that small, open, flexible economies are able to efficiently react to external shocks and to adapt to quickly changing global market conditions. We went from – 18% of GDP in 2009 to + 5,5% in 2011.
To overcome the consequences of the crisis Latvia had to engage in large structural reforms. As a result of these reforms in only couple of years Latvia has turned from inwards looking, real estate market and services led economy towards production and exports driven economy.
At present, the three whales or three main priorities of the economic policy of my government are the competitiveness, investment and exports.
Competitiveness has been at the focus of my government for more than a year and the First Latvian Competitiveness Report will be published on April 20, 2012. This is first report in which we have made systematic analysis of all the factors that have impact on country’s competitiveness. At the same time, report contains recommendations about the ways of setting up a system of permanent monitoring of these factors at the political, but also technical levels.
As for investment, we have established. High Level Investment Council, which comprises all the ministers responsible for economic development, who meet regularly to discuss and monitor different measures aiming to attract the investment. We have made necessary shortcuts to encourage investors to come to Latvia. The new system is built in a way that every important investment project is supported by the government. New system also enhances the follow-up activities from the Government services, as large part of new investment comes from existing investors that operate in country.
Finally exponential growth of exports is one of the surprises that we have encountered during last few years. We saw that quick growth in exports can be achieved without depreciating national currency. Depreciation should reduce export prices, and with normal price elasticity exports should increase. However, the actual choice we had was not between depreciation and stable real exchange rate, but between nominal and internal devaluation. The CEE countries with fixed exchange rates undertook far greater structural adjustments and made more decisive structural reforms than those with floating exchange rates. These decisive reforms, in turn, led to faster export and output growth.
Latvian government works hard in all three of these directions and our efforts were rewarded as among 183 economies in World Bank’s 2012 Doing Business ranking Latvia jumped up 10 places and currently holds the 21st place compared to 31st place last year, and stands higher in ranking than our neighbors Estonia and Lithuania. In this year's study, Latvia is also among the 12 world countries that have carried out significant reforms in 2010 and 2011 in order to improve their business environment.
Latvian proverb says: “Don’t gaze at stars while walking on the narrow footbridge”. Now I would like to touch upon some of challenges that we have ahead of us.
Although we have accomplished a lot during last three years, one has to keep in mind that the features that I have mentioned as advantages of being small, open economy, can also turn into vulnerabilities. These vulnerabilities are complex.
First of all, I would like to mention challenges coming from macro-economic environment and need for fiscal discipline. During the crisis my government and myself were often blamed for not having long term economic development objectives. But I would like to remind , two things that are important for growth in the context of economic and financial crisis. First, the crisis management often means supremacy of short term priorities over long term development objectives. Fiscal consolidation often is seen as something that strangulates the economic activity. But without stabilizing public finances, it is impossible to think about economic development. Latvian crisis and the speed with which Latvia recovered from it proved that fiscal adjustment and fiscal discipline are pre-conditions sine qua non to ensure quick transition from recession to growth. However, switching back from crisis mode to economic development may take place in conditions where you still have to combine measures of fiscal austerity with steps
to promote economic development. That’s what me and my Finnish colleague Jirkki Kattainen couple of weeks ago have called a need for “growthsterity”.
Second challenge is linked to human resources. Like other countries of the region, Latvia is not rich with natural resources except the one major of its resources – people. With around 130 000 student population for 2 million inhabitants, Latvia offers well educated and qualified labor force, speaking Latvian, Russian, English and Nordic languages. However, although having well educated labor force is crucial, to be among winners in global competition, this is not enough. To innovate and create ever greater value added, one has to attract talent. And here I clearly see the need for common European policy that helps particularly small economies like Latvia to fight the brain drain and to keep talent home.
Third challenge is about inclusiveness of the economic development, particularly in countries like ours, which relatively recently have crossed transitional period where legal environment is new and often has to be checked against the real life. And in this respect, in Latvia I think we have done a lot to create a framework in which all the actors, like Government, social partners, NGOs is involved. This dialogue was crucial during the most difficult moments of crisis when painful and socially unpopular measures had to be taken. To ensure regular, inclusive dialogue between government and its partners in 2009 we have established a Reform Management Group which includes Government representatives, employers, trade – unions, Latvian Chamber of Trade and Industry as well as representatives of NGOs.
Fourth challenge is governance. Governance is at heart of competitiveness, best governed countries are also the most competitive. However, not always obvious assumptions are accepted unanimously. We see that governance is on top of agenda internationally, we see how difficult, for instance, is debate on Fiscal Stability Treaty. It is always difficult to deal with governance issues, especially when it entails unpopular policy measures. As concerns governance in my country, we are working to put in place new standards for running state owned enterprises. The overall objective is to create a transparent system of running state owned assets. In 2010 in cooperation with Baltic Institute of Corporate Governance we have produced first consolidated annual report of SOEs, now we are putting in place new system of managing the SOEs by creating a Central Management Unit of state enterprises who will be in charge of managing state assets in future.
Those are only few challenges and I admit that there are many more, but I hope this gives a good start for our discussion.