Pēteris Strautiņš, Chief Economist of Luminor
At the beginning of this year, Latvia’s economy was ready for strong growth – it is supported by household savings, the housing market, credit growth and investments in export industries. However, the growing uncertainty about energy prices, as well as the risks of the availability of raw materials, currently cast a thick shadow of uncertainty. Future events will show whether Latvia will succeed in becoming the leader of the Baltic economy, concluded the Luminor bank’s economic review, which was presented today by the bank’s chief economist Pēteris Strautiņš.
The decline in inflation has been postponed
Before the events in the Middle East, the inflation story for this year and next looked promising, but due to higher prices of energy, metals and other raw materials, inflation could be similar to or slightly higher than last year, close to 4%. Since the long-term closure of the Strait of Hormuz would have catastrophic consequences for the world economy, including endangering the food supply of a large part of the world’s population, we assume that the current situation will not last long, and global energy markets also signal such expectations. In Latvia, the most pronounced price increase is for fuel, but the impact will also be felt in housing maintenance costs, and most likely to a small extent in food prices as well.
Latvia is waking up from the role of “suffering beauty”.
Last year, gross domestic product (GDP) growth came in at 2.1%, which was more than expected at the start of the year, but that shouldn’t have come as a surprise knowing what we knew half a year ago, which was also outlined in our September forecast. Even in turbulent geopolitical conditions, unless they become even more turbulent, Latvia’s economic activity could grow by 2.5% this year. It is possible that in 2027, Latvia will become the leader of the Baltic economy with 3.2% growth, which will be promoted by investments in production, the development of service exports and the support of European Union funds. Unlike the neighboring countries, Latvia maintains intact the 2nd level of pensions, which, together with increasing exports, especially in the field of high technology, and investments in defense will ensure the stability of the state’s finances in the long term.
Latvia is ready for faster growth, but the main obstacle is external geopolitical instability in the world, which may temporarily make life more expensive and hinder the development of export industries, but we assume that the growth acceleration predicted earlier will only be delayed.
Wages will continue to rise, but more moderately
The labor market is still characterized by sharp competition among employers, so the developments of the past year were quite pleasant for the majority of society. The proportion of jobseekers did not change (6.9%), registered unemployment decreased, but the number of employed people and the employment rate increased slightly. Wage growth was once again higher than expected at 7.7%, and with the help of tax changes, real net wage growth reached a very respectable 6.3%. However, it should be taken into account that processes may begin in the labor market that go beyond the framework of historical experience, for which there are both great hopes and concerns at the same time, namely the development of artificial intelligence.
Technology industries are regaining their role as export leaders
Last year, exports of metal-related industries (metalworking, mechanical engineering and electronics) and high-value services overcame a two-year period of weakness, which was a key factor in overcoming economic stagnation. The woodworking and food industries continued their stable development, therefore there are currently no pronounced weak points in Latvia’s exports, except for transport services.
Preconditions for the development of export industries this year and in the next two years are generally good. The star of hope is the technological growth of Latvian drone manufacturers and European investments in the defense sector. There is uncertainty about how much the closure of the Strait of Hormuz will disrupt the production of metals and basic chemicals, which are the starting point for industrial value chains around the world. There is also the question of how central banks will respond to rising inflation, as rising interest rates could weaken demand in construction and related industries, which is critical to our nation’s manufacturers.
Purchasing power is improving, lending is growing
Lending to households increased rapidly last year, for example last November the annual increase exceeded 10%, and the increase in the credit portfolio exceeded 100 million euros during the month for the first time since the global financial crisis. The housing market is in a very good balance: prices are high enough to be worth building and low enough for buyers to afford them. In this respect, Latvia is in a much better position than the rest of the Baltics, where the price level is very high. We also observed a significant increase in lending to companies. However, the great mystery of Latvia’s economy is still consumption – the real income of households has grown almost continuously since the global financial crisis, except for the year 2022, but we do not see a reflection in the consumption data.
