|
|
 |
|
Viewing report
|
|
|
|
Latvia Business Forecast Report Q2 2011
Business Monitor International, March 2011, Pages: 39
Post-Depression Recovery: Far From Robust
The Latvian economy may have emerged from its three-year depression, but the release of fairly weak Q4 GDP data reaffirms the recovery as anything but robust. While this does not fundamentally change our core outlook, it highlights a long running concern, that internal devaluation, if successful, would ultimately anchor the economy onto a lower growth path.
While the more orthodox route of nominal devaluation would have sparked a wave of defaults and held back Latvia’s eventual accession to the eurozone, the immediately cheaper currency would have provided much-needed support to the export sector.
Instead, the lengthy period of internal devaluation (the outcome of which on competitiveness remains uncertain) has shouldered the export sector with an overvalued exchange rate for an extended period. In addition, while abstaining from devaluation has prevented a sharp rise in defaults, we expect a slow and steady stream of private sector defaults over the medium-to-longer term. The Latvian government remains well on track to meet its outstanding IMF-prescribed fiscal targets, which will not only bolster investor confidence, but also anchor public finances onto a more sustainable footing over the longer term. Latvia has become a benchmark case for combined fiscal consolidation and internal devaluation.
While we still have reservations about the efficacy of the latter, the government has proved particularly adept in pushing through much needed austerity measures and structural reforms. Underpinned by a mandate for reform and improving investor confidence, the ruling coalition is likely to satisfy the outstanding fiscal targets. However, we warn of the risk posed by higher inflation and the potential for popular support to deteriorate should the government fail to tackle double-digit unemployment and revive growth.
Headline inflation in Latvia jumped sharply in January, raising concerns that a more significant inflationary spike could be brewing. Given the weakness of domestic demand, we hold fire on projecting such a scenario for the time being, instead expecting consumer price growth to average around 3.5% this year. Nonetheless, we still highlight the risks stemming from Latvia’s fixed exchange rate system and the impact of the continued surge in global commodity prices.
Latvia’s banking sector finally appears to be on mend with total assets expanding (in year-on-year terms) for the first time in nearly two years. We expect the industry to expand further in 2011, with a belated improvement in lending to the economy set to transpire. We still highlight the glaring gap between loans and deposits as providing some cause for concern, while highlighting the recent improvement in capitalisation rates as a positive development.
|
|
|
|
