www.ssoar.info Recovery of the Baltic States after the global financial crisis: necessity and strategies Pfannkuche, Alexander (Ed.) Veröffentlichungsversion / Published Version Sammelwerk / collection Empfohlene Zitierung / Suggested Citation: Pfannkuche, A. (Ed.). (2013). Recovery of the Baltic States after the global financial crisis: necessity and strategies. Bremen: Hochschule Bremen, Fak. Wirtschaftswissenschaften, Institute for Transport and Development. https://nbn- resolving.org/urn:nbn:de:0168-ssoar-334669 Nutzungsbedingungen: Terms of use: Dieser Text wird unter einer CC BY-NC-ND Lizenz This document is made available under a CC BY-NC-ND Licence (Namensnennung-Nicht-kommerziell-Keine Bearbeitung) zur (Attribution-Non Comercial-NoDerivatives). For more Information Verfügung gestellt. Nähere Auskünfte zu den CC-Lizenzen finden see: Sie hier: https://creativecommons.org/licenses/by-nc-nd/4.0 https://creativecommons.org/licenses/by-nc-nd/4.0/deed.de FACULTY OF BUSINESS AND ECONOMICS Recovery of the Baltic States after the Global Financial Crisis: Necessity and Strategies States Editor: Alexander Pfannkuche Supplement 1 to the Annual Report 2013: Working Papers of the Research Project on the Baltic States Bremen 2013 Institute for Transport and ISSN 2191-4753 Development Table of content Tatjana Muravska S. 1 -10 Political Economy of the Crisis in Latvia 2008-2010 - Key Contributing Factors Kalev Kukk S. 11-20 Estonia - Like on a Roller Coaster Matti Raudjärv S. 21-30 Developments of Estonia in the European Union in the Recent Years Boguslavas Gruževskis / Julija Moskvina / Laima Okunevi čiūtė Neverauskien ė S. 31-42 Changes in Lithuanian Labour Market during Period of Economic Recession Romans Putans S. 43-57 Youth Generation’s Intentions towards Public Administration Development - The Case of the Baltic State Sergejs Stacenko S. 58-66 The Role of Trade Unions in Social Dialog and Social Agreements in New Member States - The Case of Latvia Nils Otter / Cord Siemon S. 67-74 A Baltic Tiger in the Poorhouse - A Schumpeterian View of the Baltic Crisis Magdalena Markiewicz S. 75-86 The Development of the Banking Sector in Latvia, Lithuania and Estonia in the Context of Concentration and Competitiveness Renata Orłowska / Krystyna Żoł ądkiewicz S. 87-98 Constraints of Economic Development of East European Economies in the Context of Unpredictability of Russian Economic Policy Measures Nils Otter / Cord Siemon S. 99-115 A Baltic Tiger in a Gilded Cage - A Schumpeterian View on Innovation Policy in Estonia Tatjana Muravska Tatjana Muravska University of Latvia, Riga Political Economy of the Crisis in Latvia 2008-2010 – Key Contributing Factors Neo-liberal policy and economic transformation The severe economic downturn in Latvia, 2008-2010, was provoked by the world financial and economic crisis 2007- 2009. It had similarities with many other countries in the world: rapid growth of domestic demand facilitated by borrowing ease from banks, boom of real estate and positive growth expectations of foreign investments. Despite the similarities with other countries, the roots of the recent crisis go down in the annals of the modern history of Latvia. They also open a new scope of debate that contains potential for change in economic thought that eventually could positively influence changes in the political and economic structures of the country. Latvia and the other Baltic States were the fastest growing economies in Europe following the accession to the EU. GDP growth in Latvia was more than 10% per year during 2004-2007. In Estonia GDP growth in the same period was 4.5% and in Lithuania- 8.1%.1 Between 2000 and 2008 (before the crisis), GDP per capita, measured in Purchasing Power Standards, increased from 37% of the EU average in 2000 to 57% in 2008. According to the official statistics, this was the result of a convergence in indicators of standard of living that started with the prospects of EU enlargement and continued since after. This process could be perceived in two ways: as the outcome of EU integration, but also as a precondition to it. The apparent success of economic development in the country until 2008 and its economic transformation was based largely on the concept of a neo-liberal economic policy. Latvia since regaining its independence in 1991 along with the other Baltic states, Estonia and Lithuania, has applied the neo-liberal policies of the „Washington Consensus“. According to the neo-liberal concept and policy of the Bretton Wood institutions, transformation to a market economy from a centralised and regulated market required implementation of the first generation reforms and institutional changes aimed at building strong macroeconomic fundamentals. Institutional reforms, privatization and restructuring of large enterprises in all branches of national economy, radical fiscal reform, supported by the reform of tax policy and tax administration as well as the reform of budgetary processes, have been done according to a “policy package” suggested by the “Washington consensus” and represented a “shock therapy” policy. 2 The key fundamental suggestions received from the International Monetary Fund (IMF), relates to the establishment of a rigorous macroeconomic framework. Technical assistance, provided by the IMF and the World Bank, permitted for the first-generation reforms to be completed by the mid 1990s. During the transition period, and the implementation of the first generation reforms (1991-1999) 3, the Latvian economy underwent three major downturns. The first was from 1991-1994 when the economy in 1992 shrunk by almost 35% with a dramatic decline in production and living standards. However in 1994, the rapid decline of GDP in Latvia stabilised. This year can be considered as a turning point and the beginning of the economic success story of Latvia that lasted until the crisis of 2008. The second downturn occurred in 1995when the internal banking and financial crisis damaged the economic system of the country. In 1996, the economy started to recover. Between 1996 and 1998, economic development began to flourish with an annual growth rates reached 6% of the GDP and represents an example of the conditional convergence theory 4. By 1997, growth in Latvia was the most pronounced of the transition economies, and the annual economic growth of the country was higher than that of the EU during 1996-1998. However, in 1998, a third downturn took place. 1 Eurostat. Flash Estimate 14 February 2008. 2 John Williamson (1990) What Washington Means by Policy Reform Peterson Institute for International Economics, http://www.iie.com/publications/papers/paper.cfm?ResearchID=486, (5/03/11); Grzegorz W. Kolodko (2002) Post Communist Transition and Post- Washington Consensus. The Lessons for Policy Reforms in Mario I. Blejer and Marko Skreb (eds.) Transition: The First Decade. The MIT Press, Cambridge, Mass. 3 In December 1999 the EU opened negotiations with Latvia about the accession to the EU and the Government of Latvia signed the Joint Assessment with the European Commission on economic policy priorities for the country. 4 Fischer S, Sahay R, A Vegh C (1998) How Far is Eastern Europe from Brussels IMF, WP/98/53, http://mpra.ub.uni- muenchen.de/20059/1/fischer-sahay-vegh-brussels.pdf, 5/03/11 1 Political Economy of the Crisis in Latvia 2008-2010 – Key Contributing Factors This was the result of the Russian economic and financial crisis of 1998 that had a negative impact on Latvia The 1998 rouble devaluation in Russia forced Latvia to re-orient its exports from Russia and the Common Independent States (CIS) towards the EU countries, and thus abandon what was once Latvia's main export market. However the Russian and CIS markets became problematic for Latvian producers not only as a result of the weakened demand but also due to the strong Latvian currency, subject of the philosophy and independent position of the Bank of Latvia. In the medium term this loss of exports to Russia and the CIS was compensated in part by exports to the EU. The impact of the Russian crisis on Latvia strongly influenced trade patterns and forced Latvia’s producers to reorient trade flows to the EU countries, which grew by 16-17% per year by the time of the EU accession in 2004, and accounted for approximately 50% of Latvian exports re-establishing the pre World War II trade pattern.5 Steadily a trend of inter-trade with the EU has changed to intra- trade. The second-generation reforms have been implemented with the prospect for Latvia to become a member of the European Union. Methodologically it is aknowledged that the second-generation reform process is focused on real convergence, which requires structural adjustment and overcoming the income gap between Latvia and the EU level. Related to the above described trends in trade, the Government identified comparative advantages of the country, particularly as far as the product composition of trade is concerned: wood and wood products dominated exports, and the production of these also made a decisive contribution to the growth of GDP. Another important industry was textile. Export of textile to the EU was stimulated by cheap labour cost, as the industry is relatively labour intensive. However, this advantage has eroded over the following years when Latvian wages increased to catch up with Western Europe. The economic progress of the country required understanding of the emerging composition of production that would have to be complementary or competitive to the structures prevailing in the European Union. Support of those sectors of the economy that should be developed in order to benefit the most from EU membership, was of crucial importance. The economic structure as a whole has been transformed since the transition began in 1991. Post World War II developed large industrial enterprises and industrially based agriculture that has been predominant until the transition started. These have been dismantled with the first generation reforms and, in particular, through the privatization process.