Latvian finance watchdog recommends tightening state aid measures

The Fiscal Discipline Council (FDP) recommends that the new government provide only well-targeted and terminated support to the most vulnerable households and energy-intensive businesses in 2023, and to avoid general support measures that can stimulate inflation, as indicated in the FDP's latest crisis monitoring report on November 28.

The FDP noted that the results of the Saeima elections offer cautious optimism that the next government as a whole could also implement a relatively responsible fiscal policy. According to the council, the new government is thrown in a difficult period from a fiscal discipline perspective, defined by a set of risks, including high uncertainties that hamper macroeconomic and fiscal forecasting, geopolitical risks, and disruption of supply chains.

Fiscal discipline can also be influenced by the increasing public financial needs for social protection and the maintenance of public infrastructure, the impact of rising interest rates on debt servicing costs, the need to move towards a prudent fiscal position, and the introduction of the new European Union (EU) fiscal framework, restrictive monetary policy, and the likelihood of a deep recession that will also have a negative impact on tax revenues.

To overcome these challenges, the FDP calls on the new government to prevent unjustified increases in budget spending in 2023, and to provide only well-targeted and terminated support to the most vulnerable households and energy-intensive businesses.

"If the recession is deeper than expected, the need to increase budget spending on social protection will increase. On the other hand, if the situation is improved, budgetary expenditure could even be reduced. However, it is clear that a prudent fiscal policy will need to be provided after 2023 in order to achieve a stable and balanced fiscal position with low deficits and sustainable levels of government debt in the medium term," Inna Šteinbuka, president of the FDP, said.

The Council stated that Latvia is expected to reach its deepest crisis point in 2023. Latvia is expected to end 2022 with slower growth in the gross domestic product (GDP) than expected at the beginning of the year, but will nevertheless be positive. The latest forecasts for 2023 increasingly show a downturn. The European Commission (EC) lowered Latvia's GDP forecast for 2022 from 3.9% to 1.9% and forecast a recession (-0.3%) for 2023.

Despite the substantial state aid in the pandemic and energy crisis, Latvia has managed to hold a relatively low level of government debt for the time being. Data currently available for the second quarter show that general government debt represented 41.6% of GDP, or €14.3 billion. However, the current challenges lead to growing fiscal imbalances, budget deficits (currently projected to be 7% of GDP), and increased public debt, as well as a very limited fiscal space, the FDP noted.

 

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