Press Release: IMF Executive Board Approves €1.68 Billion (US$2.35 Billion) Stand-By Arrangement for Latvia
IMF News, December 23, 2008
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- Published: December 23, 2008
Approval and Financing Terms
- The Executive Board approved a 27-month SDR 1.52 billion (about €1.68 billion, or US$2.35 billion) Stand-By Arrangement for Latvia.
- SDR 535.3 million (about €591.5 million, or US$826.3 million) made immediately available; the remainder to be disbursed in nine installments subject to quarterly reviews.
- The Stand-By Arrangement entails exceptional access to IMF resources, amounting to about 1,200 percent of Latvia's quota.
- The arrangement was approved under the Fund's fast-track Emergency Financing Mechanism procedures.
- The Fund's Stand-By Arrangement will fill just over 20 percent of the country's 2009-2011 net financing gap.
- The remainder of the financing gap is expected to be met by the European Union, the European Bank for Reconstruction and Development, the World Bank and other bilateral creditors.
- Foreign parent banks operating in Latvia have affirmed their commitment to provide their subsidiaries with adequate financing.
Program Objectives and Key Elements
- Program center: maintain Latvia's exchange rate peg while implementing exceptionally strong domestic policies and securing substantial international financial assistance.
- Immediate program objectives:
- Stabilize the financial sector.
- Restore depositor confidence.
- Avoid the disorderly adjustment that would follow abandonment of the exchange rate peg.
- Key elements include:
- Immediate measures to stem the loss of bank deposits and international reserves.
- Steps to restore confidence in the banking system in the medium-term and to support private debt restructuring.
- Fiscal measures to limit the substantial widening in the budget deficit, and prepare for early fulfillment of the Maastricht criteria.
- Incomes policies and structural reforms to rebuild competitiveness under the fixed exchange rate regime.
- Specific program design to maintain the peg:
- Ring fence and resolve immediate problems in Parex Bank to prevent contagion.
- Draw on substantial outside international financial assistance to meet demand for foreign exchange.
- Medium-term measures:
- Restore confidence in the broader financial system to halt the drain of external liquidity.
- Substantial fiscal policy tightening to reduce financing needs, foster real depreciation, and make room for contingent financial sector liabilities.
- Policies aimed to meet the Maastricht deficit criteria to facilitate adoption of the euro.
- Strong incomes policies to reduce inflation and improve competitiveness.
- Structural policies to boost productivity growth and shift production from non-tradables to tradables.
- Private sector debt restructuring will likely be needed.
Social Protection and Fiscal Priorities
- IMF supports protection of social spending embedded in the program.
- Latvia's social spending will increase under the program from 21 to 25 percent of the budget, or by 1½ percent of GDP between 2008 and 2009, to bring it closer with EU and OECD averages.
- Additional measures to improve targeting of the social benefits system should be included in the second supplementary budget for 2009.
- Fiscal adjustment will rely on sizable expenditure cuts; spending on public investment will be maintained, and social spending protected.
Financial Sector Actions and Risks
- Government actions to take control and install new management in a major domestic bank are described as an essential step for stabilization.
- For the banking sector in general:
- Enhance the market regulator's ability to monitor the financial system.
- Clarify procedures for providing emergency liquidity assistance to help promote financial stability.
- The authorities recognize their choice to maintain the peg brings difficult consequences, including the need for fiscal tightening and the possibility that recession could be protracted.
- The program expects a deep recession and a drawn-out recovery.
Coordination and International Support
- The program is part of a coordinated international effort: the European Commission participated fully in program preparation, along with representatives from the ECB (in line with Latvia's ERM2 membership), Sweden and other Nordic countries.
- The Managing Director noted that determined implementation of the program—supported by the 27-month Stand-By Arrangement under the IMF's exceptional access policy and very substantial financial assistance expected from Latvia's European Union, Nordic and other international partners—will help address Latvia's immediate balance of payments needs and return Latvia to a sustainable growth path.
Recent Economic Developments (ANNEX)
- The global financial crisis revealed Latvia's vulnerabilities after years of unsustainably high growth and large current account deficits.
- Since end-August, private sector deposits have fallen by 10 percent, led by a run on Parex Bank which lost more than a quarter of its deposits.
- From end-August to end-November, official reserves fell by almost 20 percent to €3.4 billion, one third of short-term external debt and just over 100 percent of base money (from 127 percent in September), as the central bank sold foreign currency to defend the peg.
- Since early October the exchange rate has remained at its upper (depreciated) band, while interbank spreads have spiked.
Selected Economic Indicators (Republic of Latvia)
(Annual percent change, unless otherwise stated)
- Real GDP
- 2005: 10.6
- 2006: 12.2
- 2007: 10.3
- 2008: -2.0
- 2009: -5.0
- Unemployment rate (in percent, period average)
- 2005: 8.7
- 2006: 6.8
- 2007: 6.2
- 2008: 6.7
- 2009: 9.0
- HICP (Period average)
- 2005: 6.9
- 2006: 6.6
- 2007: 10.1
- 2008: 15.5
- 2009: 5.9
- HICP (end of period)
- 2005: 7.1
- 2006: 14.0
- 2007: 11.9
- 2008: 3.3
- General government balance (in percent of GDP)
- 2005: -1.1
- 2006: -0.9
- 2007: 0.7
- 2008: -3.0
- 2009: -4.9
- General government debt (in percent of GDP)
- 2005: 11.6
- 2006: 9.9
- 2007: 8.3
- 2008: 14.3
- 2009: 33.7
- Reserve money
- 2005: 41.1
- 2006: 66.5
- 2007: 1.0
- 2008: -28.1
- Broad money
- 2005: 38.9
- 2006: 37.4
- 2007: 12.6
- 2008: 0.8
- Domestic credit (non-government)
- 2005: 64.3
- 2006: 58.4
- 2007: 34.2
- 2008: 13.0
- 2009: -0.5
- Goods and non-factor services balance (in percent of GDP)
- 2005: -15.2
- 2006: -22.2
- 2007: -21.8
- 2008: -13.9
- 2009: -7.3
- Current account balance (in percent of GDP)
- 2005: -12.5
- 2006: -22.5
- 2007: -23.8
- 2008: -14.8
- International reserves (in months of imports)
- 2005: 2.3
- 2006: 3.2
- 2007: 3.7
- 2008: 4.0
- 2009: 3.8
- Exchange rate (lats per US$; period average)
- 2005: 0.565
- 2006: 0.560
- 2007: 0.514
- 2008: 0.477
- 2009: 0.525
- Real effective exchange rate (2000=100, CPI-based, period average)
- 2005: 90.1
- 2006: 92.6
- 2007: 100.1
- 2008: 105.3
- 2009: ...
- Quota at the Fund: SDR 126.8 million
Press Release No. 08/345; December 23, 2008 — International Monetary Fund