The current economic situation requires strict fiscal discipline  6 October 2016

The Latvian Government is broadly compliant with the principles of fiscal discipline, but both 2014 and 2015 saw negative deviations from balance targets set in legislation. This is the conclusion of the Fiscal Discipline Council's annual Surveillance Report, which was published on 6 October.

"In general, the Government’s fiscal policy can be regarded as responsible, and in the eyes of the international community Latvia is viewed as a country where fiscal policy is planned and implemented responsibly. However, if we compare Latvia to Estonia and Lithuania – our neighbouring countries, we lag behind in several indicators of fiscal discipline, such as budget deficit levels", admits Jānis Platais, Chairman of the Council.

In the most recent Surveillance Report the Council welcomes the Government's support to establish the fiscal security reserve for 2017-2019. Even though the fiscal security reserve is established at the minimum amount stipulated by the Fiscal Discipline Law, the Council believes that it is sufficient for the fiscal risks that have been presently assessed.

"The fiscal security reserve is very important, because it serves as a safety measure against different risks that can negatively affect the government budget balance. This is why the establishment of such a reserve is a great achievement. The Council hopes for a responsible decision by the Saeima so that this good intention can be implemented. It is like making a decision of whether or not to buy fire insurance – it needs to be done so that we do not have to weep over smouldering ruins", stresses Jānis Platais.

The Council reiterates its objection to increasing the budget deficit target to implement reforms in health care, as it is envisaged in the draft state budget for 2017.

"The Fiscal Discipline Council strongly agrees that the health care reform is necessary to improve public health indicators. However, funding through additional borrowing is not responsible to future generations. This is why the Council urges the Government to develop a fiscally sustainable long-term approach to the provision of public health care", says Jānis Platais.

"It should not be permitted that, as part of the state budget-making process, the ministries establish their own annual wish lists, which create new expenditures. Instead, a maximum expenditure level should be set for each ministry and the allocation of resources should be based on priorities, without allowing ministries to put pressure on the budget-drafting process", said Council member Morten Hansen, Head of the Department of Economics, Stockholm School of Economics.

In the Surveillance Report the Council also points out that recent years were characterised by slow GDP growth. Real GDP growth since 2013 has consistently been lagging behind the forecasted figures, and the slow growth rate is not sufficient to ensure convergence with the average level of prosperity in the EU. Government progress with the implementation of growth-enhancing structural reforms has so far been limited.

"Looking at the growth indicators of Latvia's economy, we see that they are still far behind the European Union’s. This shows that structural reforms are not implemented or not implemented successfully. If Latvia’s economic growth will continue to lag behind countries like Sweden or Germany, people from Latvia will continue to leave in search of higher profits, which means that Latvia will lose its tax payers. Therefore, the implementation of structural reforms in education, health care and other fields should receive very serious attention", says Morten Hansen.

Baiba Traidase, Senior Economist at the Bank of Latvia's Monetary Policy Department, stresses that, on the whole, the awareness of decision-makers and the public of the need for budgetary discipline has improved, but the real test will be at the end of the period of low interest rates, which has lasted for several years. "Currently, public debt servicing costs have significantly reduced, enabling hundreds of millions of euro worth of savings to be diverted to much-needed structural reforms and strengthening the country's competitiveness. Unfortunately, this opportunity has not been fully used, savings are largely spent on increasing existing expenditures, and reforms in several areas have yet to be implemented. I hope that the government will be able to efficiently use opportunities afforded by the conditions created through monetary policy, ensuring that we not burden future generations with unaffordable debt", says Baiba Traidase.

The Surveillance Report is the most important document produced by the Council. It analyses (i) the fiscal policy of state institutions, including the Ministry of Finance, other ministries and the government as a whole, (ii) macro-economic developments in the country, as well as the budget-drafting process and the conformity of budget execution indicators with expected results.

The Surveillance Report is available here.