Washington, DC: The Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation[1] with the Republic of Latvia and endorsed the staff appraisal without a meeting on a lapse-of-time basis.[2] The authorities have consented to the publication of the Staff Report prepared for this consultation.[3]
Latvia’s growth rebounded while inflation increased. Following no growth in 2024, real GDP growth rebounded to 2.1 percent in 2025, driven by private investment and public consumption.
Headline inflation rose in 2025, driven by higher food prices, while core inflation remained elevated amid persistent services inflation and strong nominal wage growth. Headline inflation has remained elevated in recent months, reflecting higher energy prices linked to the war in the Middle East.
Growth is projected to decline slightly in 2026. Real GDP growth is expected to decline to 1.8 percent, as the negative effects of the war in the Middle East are expected to be only partially offset by strong public investment, a recovery in consumption, and strong credit growth. Meanwhile, persistent supply disruptions in oil, gas, and petrochemicals are expected to push up headline inflation. Downside risks to growth include a prolonged war in the Middle East and heightened geopolitical and trade tensions, while faster EU fund disbursement and accelerated structural reforms could contribute to higher-than-expected economic growth. Upside risks to inflation stem from higher energy and food prices and wage pressures, while tighter global financial conditions could reduce inflation.
Latvia’s government faces rising medium- and long-term spending pressures, amid heightened uncertainty. Fiscal pressures are increasing from multiple sources, including higher defense spending, the costs of population aging (pensions and healthcare), and investments in energy security and the green transition. Meanwhile, rising energy prices, driven by a prolonged war in the Middle East and escalating trade tensions have heightened uncertainty. Escalating global trade tensions could weigh on Latvia’s growth by weakening demand from key European trading partners and dampening investment.
Executive Board Assessment[4]
Latvia faces structural challenges, with weak productivity and slow income convergence with the rest of the euro area, amid heightened uncertainty. Latvia’s income convergence has been constrained by weak total factor productivity growth and limited capital deepening, while skill mismatches and labor market frictions continue to weigh on productivity. Closing Latvia’s income gap will require structural reforms that boost investment, productivity, innovation, and AI adoption. Meanwhile, rising energy prices and escalating trade tensions have heightened uncertainty. A prolonged rise in energy prices could fuel inflation, while weaker external demand resulting from global trade tensions could dampen Latvia’s exports and investment.
GDP growth is projected to decline while inflation is expected to increase. Real GDP growth is projected to slow, as the negative effects of the war in the Middle East are only partially offset by strong public investment, recovering consumption, and strong credit growth. Meanwhile, persistent supply disruptions in oil, gas, fertilizers, and petrochemicals are expected to increase inflation. Downside risks to growth stem mainly from a prolonged war in the Middle East and heightened geopolitical and trade tensions. Higher energy prices could raise inflation and wage pressures.
Fiscal policy should become neutral amid resilient demand and elevated inflation, with any energy support targeted and temporary. If further disruptions to global energy markets occur, the authorities should allow automatic stabilizers to operate while keeping the headline fiscal deficit on a declining path between 2027–2031. Any discretionary energy support should be limited, temporary, and targeted at vulnerable households to preserve fiscal space, maintain price signals, and contain price-wage pressures. Temporary support for viable firms facing high energy costs could also be considered, subject to strict eligibility criteria. Windfall taxes on energy companies should be avoided, as they could discourage investment in alternative energy.
Latvia should adopt a credible medium-term fiscal strategy to preserve fiscal buffers, address spending pressures, and reduce public debt. Fiscal pressures are increasing because of higher defense spending, the fiscal costs of an aging population, investment needs related to energy security, and the cost of reversing the temporary diversion of pension contributions from the second to the first pillar. Moreover, fiscal policy will face tighter constraints than at present once the EU national escape clause expires in 2028. Latvia should anchor public debt at 50 percent of GDP over the medium term, reflecting its exposure as a small open economy to volatile growth, higher sovereign borrowing costs affected by geopolitical risks, rising spending pressures, and potential contingent liabilities from SOEs.
Achieving the medium-term debt objective will require gradual fiscal consolidation supported by public sector reforms. The government should reallocate resources away from lower-priority spending and improve spending efficiency, for instance by streamlining school and hospital networks. However, given Latvia’s relatively weak health outcomes, increased public spending will also be needed to strengthen healthcare. Therefore, efficiency gains in current spending are unlikely to generate sufficient savings to address rising spending pressures.
Revenue mobilization should therefore form an integral part of the fiscal consolidation strategy. Revenue measures should include raising property tax revenue, reducing income tax exemptions, and improving VAT compliance. The authorities should also restore the 1 percentage point of social contribution rate from the first to the second pension pillar by 2029 and strengthen the defined-contribution pension pillars to contain costs, including through higher contribution rates.
Financial sector policies should continue to support financial stability by continuing to strengthen supervisory and regulatory frameworks. Overall, Latvia’s banks have ample capital and liquidity and the implementation of the CRR3 framework improved most banks’ capital adequacy ratios. Staff reiterates that the solidarity contribution on banks should be phased out as planned in 2027, as it could distort future lending toward less productive uses. Latvia has continued to strengthen its AML/CFT framework, as confirmed by the MONEYVAL evaluation.
Growing nonbank lending, particularly to lower-credit-quality borrowers, warrants close monitoring and oversight. Staff supports the planned transfer in 2027 of licensing and supervisory responsibilities for nonbank consumer lenders from the Consumer Rights Protection Center (PTAC) to the Bank of Latvia to strengthen oversight and safeguard financial stability. The currently neutral macroprudential stance is appropriate, but the authorities should extend and adapt the macroprudential policy framework currently applied to banks to cover the nonbank financial intermediation sector.
Latvia’s external position is currently moderately weaker than that implied by fundamentals and desirable policies. Fiscal adjustment and structural reforms to boost productivity should help the external sector reach a balanced position. Â
Boosting productivity will require reforms to facilitate labor mobility and increase labor force participation. Policies to increase labor force participation include active labor market policies, incentives for pensioners to work after retirement, and linking the retirement ages to future life expectancy gains. Improving housing affordability and quality, particularly through renovations and energy-efficiency upgrades, would help reduce regional disparities and support labor mobility. Staff supports the government’s state-backed mortgage program to improve access to home financing in regional areas, provided it remains targeted.
Latvia should also strengthen workforce skills and support the adoption of AI. Latvia is well placed to benefit from AI given its capable digital infrastructure, but limited digital skills and low firm-level adoption constrain productivity gains. Policies should strengthen education, training, and reskilling programs, improve the alignment of workforce skills with labor market needs, increase participation in STEM fields, and support AI adoption among SMEs.
READ MORE: https://www.imf.org/en/news/articles/2026/09/21/pr2694-latvia-concludes-aiv
