- Latvia's successful convergence to euro area income levels has slowed. GDP per capita has fallen behind, due to weak total factor productivity and limited capital deepening. The government faces growing fiscal demands from pensions, health care, defense, energy security, and climate transition, requiring preserved fiscal space for future crises.
- The fiscal strategy should focus on mobilizing revenue and improving the efficiency of public spending, to preserve fiscal buffers and address rising medium- and long-term spending pressures. Also, to ensure adequate retirement income, the defined contribution pillars of the pension system should be strengthened.
- Financial sector policies should reassess the solidarity contribution on banks and continue to monitor banks' exposure to the commercial real estate sector. Structural reforms should target measures to promote investment and allocative efficiency, which are crucial to reignite growth, accelerate convergence, and increase government revenue.
Washington, DC: On September 15, 2025, the Executive Board of the International Monetary Fund (IMF) completed the Article IV Consultation for the Republic of Latvia. [1]
Latvia's growth contracted while inflationary pressures eased. Following strong growth in 2023, Latvia's economy contracted by 0.4 percent in 2024 largely driven by a decline in private investment. Public investment also contributed negatively, as the government struggled to maintain the unusually high absorption of EU funds. Headline inflation experienced a significant decline due to lower energy and food prices, while strong nominal wage growth kept core inflation elevated. The inflation momentum has begun to reverse in recent months with both headline and core inflation increasing.
Growth is expected to rebound in 2025, despite downside risks. Real GDP growth is projected to recover to about 1 percent, mainly supported by public investment. Headline inflation is projected to rise in 2025 due to higher energy and food prices, while core inflation is anticipated to decrease but remain high due to persistent services inflation. Downside risks to growth dominate and stem mainly from worsening geopolitical tensions, deeper geoeconomic fragmentation, spillovers from new tariffs, slower growth in trading partners, delays in the absorption of EU funds, higher energy and food prices, and increased electricity costs. A strong recovery in Latvia's main trading partners, a boost in confidence from improved security, a faster-than-expected disbursement of EU funds, and a swift implementation of structural reforms could lead to higher-than-expected growth.
Latvia's government is facing significant medium- and long-term spending pressures, compounded by new near-term challenges. Medium and long-term spending pressures driven by population aging (pensions, health care), defense spending, investments for energy security, and the costs of the green transition pose fiscal challenges. Although direct trade and financial exposures to the U.S. are small, indirect trade and confidence channels may still affect economic and financial stability through financial contagion. Also, an escalation of trade tensions between the EU and its main trading partners could affect Latvia's exports indirectly through weaker demand in key European trading partners and heightened global trade policy uncertainty.
Executive Board Assessment [2]
Executive Directors commended Latvia's track record of prudent policies and strong institutions. Directors cautioned, however, that the economy faces emerging near‑term challenges from geopolitical fragmentation and trade tensions, as well as structural headwinds from unfavorable demographic trends and skill mismatches in the labor market that are compounding the obstacles to productivity growth. Directors emphasized the importance of safeguarding macroeconomic stability and advancing structural reforms to reignite growth and accelerate income convergence with euro area peers.
Directors stressed the need to preserve fiscal buffers while addressing the significant medium‑ and long‑term spending pressures from pensions, health care, defense, energy security, and the climate transition. They recommended mobilizing additional revenues, improving the efficiency of public spending, and reprioritizing expenditures. Revenue measures could include strengthening tax compliance, rationalizing exemptions, and broadening the tax base by reducing the informal economy. Directors also encouraged accelerating fiscal reforms, including strengthening public investment management and enhancing the governance of state‑owned enterprises. They recommended further strengthening the pension system to improve pension adequacy and sustainability and curb old‑age poverty.
Directors welcomed the financial sector's resilience and concurred that the macroprudential stance remains broadly appropriate. They encouraged the authorities to ensure that the existing borrower‑based measures to promote energy‑efficient housing are carefully designed so that any adjustments do not inadvertently create vulnerabilities in the housing market or the broader financial system. Directors urged the authorities to carefully assess the impact of the solidarity contribution on banks and continue to monitor banks' exposure to the commercial real estate sector. Directors commended the authorities for their progress in strengthening the AML/CFT framework and encouraged them to continue addressing any remaining gaps.
Directors emphasized the importance of pursuing growth‑enhancing reforms geared toward boosting productivity, strengthening the labor supply and deepening capital markets. They recommended adopting targeted measures to promote investment and the efficient allocation of resources and addressing labor and skills shortages. Accelerating efforts to support innovation, technology adoption, and the digital transformation by increasing cooperation between the public and private sectors would also be important. Directors encouraged Latvia to enhance its energy security, including by increasing the share of renewable energy and continuing to improve interconnections to other European power grids.
Table 1. Latvia: Selected Economic Indicators, 2020–26
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[1] Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.
[2] At the conclusion of the discussion, the Managing Director, as Chair of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country's authorities. An explanation of any qualifiers used in summings up can be found here: http://www.IMF.org/external/np/sec/misc/qualifiers.htm .
