Republic of Lithuania: Staff Concluding Statement of the 2025 Article IV Mission
IMF News, June 6, 2025
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- Published: June 6, 2025
Key takeaways and overall assessment
- Lithuania proved resilient to multiple shocks in recent years, but new challenges are emerging, including further increases in defense expenditure adding to existing long-term spending pressures.
- Lithuania needs to reignite reform momentum to boost productivity while addressing fiscal and structural challenges.
- A comprehensive strategy is recommended to preserve fiscal space through revenue mobilization, enhanced spending efficiency, and limiting further spending pressures by strengthening the multi-pillar pension system.
- Structural reforms should focus on facilitating investments and accelerating adoption of new technologies to boost productivity growth, supplemented by labor market policies, including reducing skills mismatches.
- Financial sector policies should continue to safeguard financial stability and integrity.
Recent developments, outlook, and risks
- Growth and inflation
- The economy grew 2.7 percent in 2024.
- Inflation has risen since late 2024, driven by higher energy prices and excise duties.
- The economy is expected to grow 2.8 percent in 2025.
- Inflation is expected to increase to 3.1 percent in 2025.
- Fiscal and public debt developments
- The general government deficit widened from 0.7 percent of GDP in 2023 to 1.3 percent of GDP in 2024.
- The debt-to-GDP ratio increased from 37.3 percent in 2023 to 38.2 percent in 2024.
- Financial sector and credit
- Banking sector remains financially sound with high capitalization, ample liquidity buffers, and low non-performing loan (NPL) ratios.
- Bank profitability eased in 2024 compared to record highs in the previous year, amid lower interest rates.
- Loan growth to non-financial corporations and households recovered in 2024 and early 2025; credit-to-GDP ratios increased moderately.
- House price growth stabilized in 2024 and affordability has improved; house prices are likely not significantly above fundamentals given robust demand and increasing supply.
- Labor market and external demand
- Growth in 2024 was driven by private consumption supported by significant real income gains.
- External demand is expected to remain subdued; ICT and professional activities outlook is positive.
- Labor market will tighten reflecting negative labor force dynamics affected by the normalization of migration flows.
- Risks
- Risks are tilted to the downside: exposure to trade policy uncertainty and geopolitical risks.
- Demographics pose medium-term risks to labor supply and competitiveness if productivity growth fails to accelerate.
- Fiscal position faces considerable medium-term risk without sufficient measures, notably if defense spending rises.
Fiscal policy findings and recommendations
- Short-term stance
- A moderately less expansionary fiscal stance in 2025 would be helpful; strategy should shift to preserving fiscal space.
- The deficit is projected to rise to 2.8 percent of GDP in 2025 due to significant increases in pension spending and higher public sector wages.
- With a small and decreasing negative output gap under staff projections, a moderately tighter fiscal stance to reduce deficits and stabilize the debt-to-GDP ratio would be appropriate.
- Any unused spending or revenue overperformance in 2025 should be saved to limit the deficit increase.
- Defense spending and medium-term fiscal risks
- Envisaged increase in defense spending to 5-6 percent of GDP in 2026-30 from the current level of 3 percent would raise financing needs significantly.
- In the absence of additional fiscal measures, debt could reach 60 percent of GDP by 2030.
- An average annual adjustment of about 0.5 percentage points of GDP in the general government balance over 2026-30, with the majority of additional defense spending financed by front-loaded increases in tax revenues, would help stabilize debt at around 50 percent of GDP by 2030.
- Revenue mobilization and tax policy
- Financing options for additional defense spending should be anchored by revenue mobilization.
- Proposed tax policy changes are welcome but revenue yield is estimated to be modest.
- Further scope identified to raise revenues while improving the system:
- Make the personal income tax (PIT) system more progressive and streamline tax schedules.
- Limit exemptions in corporate income taxes (CIT) and property taxes.
- Reduce the value added tax (VAT) compliance gap while improving VAT efficiency.
- Spending efficiency and pension policy
- Fiscal savings could be generated by improving spending efficiency in healthcare and education (e.g., hospital network rationalization; rationalizing school network and teacher-student ratios for secondary education).
- Strengthening the multi-pillar pension system will limit some additional spending pressures in the medium term.
- The current pension system implies significant increases in public pension expenditure over the next two decades and low replacement ratios.
- The Pillar II reform proposal (making participation voluntary and increasing opt-out/suspend options) is likely to further reduce the replacement rate and could materially impact the pension system and public finances.
- Staff urges authorities to allow sufficient time for careful consideration, including further thorough analysis of social and fiscal sustainability.
Financial sector policies and recommendations
- Stability and resilience
- Bank profitability is expected to moderate further but remain high in 2025.
- Solvency and liquidity stress tests by the Bank of Lithuania suggest banks can withstand adverse macroeconomic scenarios and unexpected liquidity shocks.
- Some smaller banks require enhanced capitalization and closer oversight.
- Cyber resilience should continue to be strengthened, including full implementation of the Digital Operational Resilience Act (DORA) regulation.
- Macroprudential stance and market risks
- Current macroprudential stance is broadly appropriate, but continued vigilance is warranted.
- Financial cycles have shown no major overheating signs, but sustained expansion requires close monitoring and readiness to act if excessive expansion emerges.
- Commercial real estate market requires attention due to risks of price corrections from persistent supply-demand imbalances.
- In a significant adverse financial shock, relaxation of capital-based measures would be appropriate to minimize credit supply disruptions and support lending.
- AML/CFT
- AML/CFT framework has been strengthened significantly; continued effective implementation is essential.
- The third national risk assessment identified virtual asset service providers (VASPs), electronic money institutions (EMI), and payment institutions (PI) as posing significant ML/TF risks.
- Authorities should continue AML/CFT efforts, including Bank of Lithuania oversight and market controls for newly licensed VASPs under the MiCAR regime, supervision of payment service institutions, and AML/CFT measures for CENTROlink members.
Structural reforms and medium-term growth policies
- Productivity and investment
- Recent recovery has been driven by higher labor accumulation from temporary net migration; contributions from capital and total factor productivity (TFP) growth were smaller than earlier convergence periods.
- Low capital intensity is a key barrier to productivity growth and transition to higher value-added economy.
- Policy measures to increase investment:
- Develop risk capital, co-financing, and risk-sharing mechanisms to enhance credit flow to SMEs.
- Targeted credit guarantee schemes and integrating digital solutions to alleviate access-to-finance constraints.
- Expanded role of state-owned ILTE (previously INVEGA) to complement private banking in supporting investment in high value-added sectors, innovation, energy efficiency, and strategic infrastructures—ensure effective monitoring and transparency of ILTE operations.
- Deepen the EU single market and strengthen incentives to develop domestic capital markets.
- Education, skills, and labor market
- Lithuania is one of the countries with the highest skills mismatches in Europe.
- Critical shortages persist in nursing, engineering, and scientific fields.
- Reforms needed to align education and training with market demands; integrate migrants effectively into the labor market to sustain labor force.
- Recent immigrants have been successfully absorbed; legislative amendments enabled easier migration for high-skilled workers despite reduction of non-EU workers quota in 2025.
- Policies should integrate migrants in productivity-enhancing ways and facilitate foreign professionals in sectors with largest shortages.
- Digitalization, AI, and climate/energy
- Lithuania has invested significantly in digitalizing its economy and is a main fintech hub in Europe, but digital infrastructure remains close to EU average.
- Policies should facilitate technological diffusion, job transition, and AI adoption among firms while mitigating risks of job displacement and inequality.
- START plan initiatives aim to promote digitalization and AI deployment in private sector and public administration.
- Energy security reinforced: Baltic countries joined the European electricity grid in 2025, fully disconnecting from the Russian electricity system.
- Diversification and increased domestic renewable electricity production have lowered import dependency.
- Lithuania remains susceptible to climate change risks and needs to accelerate the green transition, particularly adaptation; future investment in new technologies and defense should not thwart economy-wide emissions reduction efforts, consistent with the updated National Energy and Climate Action Plan (NECP) for the period 2021–2030.
Concluding remarks
- Preserve fiscal space via revenue mobilization, spending efficiency, and pension system strengthening.
- Reignite reform momentum to boost productivity through investment, digitalization/AI adoption, and education/labor market alignment.
- Continue policies to safeguard financial stability and strengthen AML/CFT implementation.
- The IMF team thanks Lithuanian authorities, Bank of Lithuania, ECB, private sector, unions, and business associations for constructive discussions.
Republic of Lithuania: Staff Concluding Statement of the 2025 Article IV Mission