Other items of interest in the document are the proposal to raise VAT in 2010 from 21% to 23% if other forms of revenue raising cannot be identified. The impact on already very hard pressed retail sales is not too hard to imagine. The introduction of a residential real estate tax is also proposed with local authorities being empowered to increase the real estate tax to 3% of cadastral values. If implemented, this will do only one thing: further reduce Latvian real estate values which are already down 50% from their peak, and on whose bottoming-out any hope of ultimate recovery depends.
Which is another way of saying that in macro economic terms the document leaves rather a lot to be desired, and essentially it is hard to find any item which is actually going to stimulate rather than flatten a recovery.
Also worthy of note is the requirement that Latvia now has to closely coordinate policy with the EU and the IMF.
"All significant Cabinet decisions or other decisions with a fiscal impact, including on social security or any guarantee scheme, shall be announced and undertaken only after discussions with the EC and the IMF,"
The document also stipulates that the government will have to report every month on all key aspects of spending and revenue, including providing a breakdown for each ministry as well as for local governments. These performance criteria, given the now near total dependence of the country on external support - de facto, as a sovereign state Latvia has effectively ceased (at least temporarily) to exist, some 19 years or so after its foundation - are not surprising in and of themselves, but it could have been hope that the country would have been better served in terms of the kind of advice which is being offered. The document repeated that Latvia should aim to reach a budget deficit of 10 percent of gross domestic product (GDP) this year, 8.5 percent in 2010, 6 percent in 2011 and 3 percent in 2012, numbers which, if my back of the envelope calculations are not totally awry mean that Latvia's debt to GDP will be outside the EU 60% limit by the time the deficit comes down under 3%, depending on GDP performance in 2010 and 2011. In any event it will be touch and go. So you enter by one door, only to leave by the other.
7 comments:
SUPPLEMENTAL MEMORANDUM OF UNDERSTANDING text PDF - better then photocopy.
To be honest for some reasons - it is better to label this document as memorandum of MISunderstanding.
http://www.fm.gov.lv/preses_relizes/dok/Supplementary_MoU_13%2007%202009_ENG.pdf
It is somewhat ironical, only now - when we have perspective of further VAT increase (on already damaged retail sales) and perspective of real estate tax (on already half dead real estate market and people having problems to service their mortgages), people are suddenly realizing that devaluation (the term that Latvian government is referring to as church would refer to devil) wouldn't bee that bad...
...compared to drastic fiscal policy that is about to be imposed on already struggling economy.
For those (reading in Latvian) who wonder what I'm referring to please read comments of this article:
http://www.db.lv/2/a/2009/07/20/Latvija_vienojas_ar_Eirop2?readcomment=1#comment
And is it is especially sad when prime minister asked to comment on those kind of issues (e.g. raising taxes) comments with essentially the same message - what can we do, what can we do, we have no choice, they (IMF, EC) told us to do so...
It is the only we how we will avoid devaluation and bankruptcy...
It could be much worse you know...
It is like there would be no other questions apart form managing requirements of EC and IMF, that should be solved and thought of in midst of economical crisis that we are in ?!
...but then again I can understand decision making logic of our government.
If you follow EC/IMF and fail, you can always say - mmm ok, I did my best you know, but EC/IMF led us here, what could I do, what could I do...
But if you would follow your own economical agenda (assuming that you'd had one) and fail, you would have no one to blame but your self. And doing so would ta a courage, a lot of courage.
So it is obvious which path is easier to follow.
I'd say that it is all POLITICS, and not macro economics, that go on in Latvia in terms of decision making on how to manage crisis.
This day shall be remembered as the day of losing independence. I hereby propose to add another "18 November" to our calendar whenever these loans are paid back..
Also, I do support increasing the rate of and broadening the base of the RET. Not only it could somewhat fix the municipal budgets, which are also struggling, but it would hopefully kick them bastards "sit-on-me-empty-house-do-nothing" from the city centre, where we have empty land and buildings and plenty of development opportunities - if only current owners were a bit under more stress. Current RET taxation system is perfectly tailored for a few interest groups who hold sexy real estate in good locations.
And finally, VAT increase is, of course, a killer. But it is a measure of last resort coming from a lender of last resort. If, they say, you do not implement reforms and reduce spending - that's what will have to happen. And no, you do not have an easy way out in cutting pensions anymore. So it now depends solely on how long will the ones in charge of their respective ministries and state companies continue to fool around.
What puzzles me most is that nowhere is there anything about what Latvia will do to start creating wealth and economic growth. You can only cut down as much, then you need to get some new your own crated money, not borrowed from the EU and IMF etc.
What strikes me the most is at the end of Article 7 of the MoU "The Latvian authorities intend to continue with sich sizable adjustment every year until the budget deficit is below the 3% of GDP Maastricht threshold"
This basically means that there are no limitations in whatsoever the cust will be in public spending. With economy in freefall, the possibility to sustain deficit at 3% looks like chasing the dog's tail. Looks like our government is trying to get to bottom with no-money-exchange-based economy.
Hi Girts,
"With economy in freefall, the possibility to sustain deficit at 3% looks like chasing the dog's tail."
You raise a very important point. Obviously the economy will decline more slowly next year, and may even be stable in 2011, but the problem is, even if they get the annual deficit below 3% eventually (Hungary has been trying since 2006) they will still be outside the euro criteria due to the Debt to GDP problem. According to the original EU document, prepared by the Economic and Financial Committee (composed of finance ministry, European Central Bank and Commission officials) Latvian government debt is expected to grow to 64 percent of GDP next year, and 77 percent in 2011, when you take into account financial industry stabilization costs. 60% is the maximum level for the euro, so this needs to be reduced, which either means more cuts or growth in GDP (and probably both). I just don't see any way this can work.
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