Publication: Monitor Volume: 6 Issue: 176

In 1999, the fiscal deficits of all three Baltics were higher than planned, as revenues shrank due to recession. This year, as expected, Estonia, Latvia, and Lithuania are all in the process of recovering from last year’s recession. Yet both Latvia and Lithuania will exceed the fiscal deficit targets agreed to with the IMF. Moreover, in drafting budgets for 2001, officials are refusing to tighten fiscal policy next year.

From a 1999 deficit of 4.0 percent of GDP, Latvia’s 2000 budget allowed a deficit of 2.0 percent of GDP. The Finance Ministry is now considering whether to raise this to 2.4 percent or 2.7 percent (BNS, September 14). For 2001, officials who negotiated Latvia’s “cooperation memorandum” with the IMF promised to tighten the deficit to 1.0 percent of GDP. But the draft 2001 budget as approved by the cabinet provides for a deficit of 73 million lats, or 1.74 percent of GDP. The increase is due to higher expenditures, as ministers agreed to allocate additional spending for teachers’ salaries, defense spending and a minimum wage increase next year, without increasing revenues. Bank of Latvia President Einars Repse was disappointed, warning that deviating from previously announced policies could result in a loss of trust on the part of foreign investors (BNS, September 13).

Lithuania had agreed with the IMF to reduce its budget deficit from 7.4 percent of GDP in 1999 to 2.8 percent this year. But it was clear by late summer that this was unattainable. In September, the IMF tentatively agreed to a revised deficit of 3.3 percent (to 1.475 billion litas), though this will need to be approved by whatever new government emerges out of Lithuania’s October general elections (BNS, September 12). Poor fiscal performance is, perhaps surprisingly, not a result of pre-election spending; rather, the problem is on the revenue side. Through August, revenues were 216 million litas lower than had been targeted. The shortfall was due largely to smaller-than-planned inflows of VAT taxes (8 percent under target) and of excise taxes (13 percent under target), as economic actors switch to less-taxed fuels. Additionally, officials apparently failed to appreciate the share of Lithuania’s foreign trade that takes place within free-trade agreements–customs duties were 24 percent less than planned (BNS, September 12). The Social Insurance Fund is also a major culprit, as usual. For 2001, Lithuania had agreed with the IMF to balance the budget. Current cabinet negotiations, however, have taken a deficit of 1.4 percent of GDP as the basis for discussion (BNS, September 13).

Although Latvia’s and Lithuania’s revised deficits are not excessively large, for countries with worrying large current account deficits and pegged exchange rate regimes (which leaves fiscal policy as the main tool for restraining domestic demand), the inability or unwillingness to control the state purse strings raises concern.