Republic of Latvia Entering A New Phase of Reforms - February 2019
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Republic of Latvia Entering A New Phase of Reforms February 2019
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This presentation contains forward-looking statements, which include all statements other than statements of historical facts, including, without limitation, any statements preceded by, followed by or including the words “anticipates,” “estimates,” “expects,” “believes,” “intends,” “plans,” “aims,” “seeks,” “may,” “will,” “should” or similar expressions or the negative thereof. Such forward-looking statements involve known and unknown risks, uncertainties and other important factors beyond Latvia's control that could cause Latvia’s actual results, performance or achievements to be materially different from future results, performance or achievements expressed or implied by such forward-looking statements. These forward-looking statements speak only as at the date of this presentation. Latvia expressly disclaims any obligation or undertaking to disseminate any updates or revisions to any forward-looking statements contained herein to reflect any change in its expectations with regard thereto or any new information or change in events, conditions or circumstances on which any of such statements are based. 1
Key Strengths Underpinning Latvia’s Credit Profile
1
Flexible, resilient economy, among fastest growing in the Eurozone
2
Broadly-diversified exports, important factor underpinning the sustainable
current account balance
3
Fiscal discipline, deeply embedded, reflected in
low, and still declining, government debt
4
New era of reforms launched in 2017, focused on improving productivity
and more inclusive growth
5
Well-capitalized and profitable banking sector, supporting moderate
expansion of credit, with tighter AML/anti-terrorism funding regime
2
1. Overview Portrait of an Ascending Sovereign Credit
Presentation Outline 1) Overview: Portrait of an Ascending Sovereign Credit 3 2) The Economy: Strong, Sustainable Growth 6 3) Banking Sector: Well-Capitalized, Profitable, and Beginning to Lend Again 10 4) Fiscal Policy: Disciplined Approach Drives Improved Credit Profile 15 5) New Reform Push: Targets Productivity and More Inclusive Growth 17 6) Government Debt and Funding Strategy 21 7) Conclusion 26
Latvia Belongs to Core Europe
Latvia belongs to core Europe. The country is also deeply integrated in the international community and committed to high
standards in terms of the quality of economic policies and governance.
Key Facts Latvia is a Member of the Eurozone, NATO and OECD
Territory 64,573 sq. km1 Europe
Eurozone Members
Borders Estonia, Lithuania, Belarus and Russia
NATO Members
Capital Riga
Population2018 1.93 million1
Currency Euro
GDP per capita 2017 EUR 13.9261
Nominal GDP2017 EUR 27.03 billion1
Main economic sectors 2017 Services (74%1) and Manufacturing (13%1)
OECD Members
Source: 1Central Statistical Bureau of Latvia
Latvia Regains Latvia Admitted Approval of Loan Latvia joins Latvia Becomes
Independence to NATO Programme with Eurozone/ OECD Member
IMF, EC and Economic and
Bilateral Lenders Monetary Union
Aug 1991 Sep 1991 Mar 2004 May 2004 Dec 2008 Dec 2011 - Jan 2012 Jan 2014 Jan – Jun 2015 Jul 2016
International
Loan Programme
with IMF/EC Latvia’s
Latvia Becomes Closed Presidency of EU
UN Member Latvia Enters EU Successfully Council
3Latvia’s Credit Ratings are on an Improving Trend
Rating agencies acknowledge Latvia’s low general government debt, small fiscal deficit and institutional strength as key
factors bolstering its creditworthiness. In September 2018, S&P raised its sovereign credit rating on Latvia to A from A-.
Long-term Foreign Currency Rating Development
5
4
S&P A/A2
Fitch A-/A3
3
Moody's
2
BBB+/Baa
1
BBB/Baa2
0
BBB-/Baa3
-1
BB+/Ba1
2012 2013 2014 2015 2016 2017 2018 2019
-2
0 5 10 15 20 25
Key Strengths of Latvia’s Sovereign Credit Profile Key Risk Factors Affecting Latvia’s Sovereign Credit Profile
Sustained strong economic and fiscal performance External financing risks and geo-political tensions with Russia continue
to constrain the ratings
Eurozone membership further strengthens Latvia’s creditworthiness:
– underpins economic policy coherence and credibility Latvia is a small and highly open economy, making it vulnerable to external
shocks
– improves fiscal and external financing flexibility
– reduces foreign-currency risks on balance sheets Latvia’s GDP per capita is below the median level of its ‘A’ category peers
– gives Latvian banks access to European Central Bank liquidity facilities
Membership in the OECD with its accompanying commitments to
structural reforms and economic liberalization
Sound banking sector – dominated by foreign Scandinavian banks
Source: S&P, Fitch and Moody’s
4Key Events Since September 2018 Bond Issuance
Completion of the 2018 funding program in the international markets with
1
September bond issuance
Technical Budget 2019
2 Latvia's credit rating was upgraded by S&P in September 2018 to A from A-
• Due to the length of time taken to form a government
following the elections for the thirteenth Parliament
and the fact that the 2019 government budget had not
been approved, on 6 December 2018 the Parliament
approved amendments to the Law on Budget and
Formation of a new government, whose priorities include strengthening the Financial Management relating to the principles for the
3
financial sector and maintaining fiscal discipline preparation of a temporary budget. These
amendments provided that the budget expenditure for
2019 cannot exceed the expenditure planned for the
respective year in Latvia’s medium-term budget
framework, ensuring that policies and measures
While the new government is working on a budget for 2019, the government started in the previous year will be continued in 2019
4
operates under the terms of a Technical Budget, described at right
• The authorisations granted in accordance with these
amendments will terminate when the Annual State
According to the Cabinet of Ministers’ schedule, a draft of the Annual State Budget Law comes into force, and at that time all
5 expenditure from the beginning of the financial year
Budget Law will be submitted to the Parliament on 8 March 2019
will be registered in accordance with the new Annual
State Budget Law
Latvia's economic growth in Q4 2018 was robust and balanced, continuing the • On 29 January 2019, the Cabinet of Ministers adopted
6
trends established earlier in the year a schedule for the preparation and submission of the
Annual State Budget Law for 2019. According to the
adopted schedule, a draft of the Annual State Budget
Law will be submitted to the Parliament on 8 March
2019
7 Latvia's export market share continues to expand
52. The Economy Strong, Sustainable Growth
Growth Accelerated in 2017 and Remains Elevated Today
Latvia is among the top 5 fastest growing countries in the EU with a 3.0% average growth in the last 6 years. Robust growth is currently
supported by strong domestic demand, private investment inflows, the EU funding cycle and favourable foreign trade conditions.
Real GDP Growth (%) GDP Growth Composition (%)
7
5.1 5.8 5.5
6
4.8 5.3
5 4.2 4.8 4.6
3.6 3.7
4
2.9 2.7
2.5 2.3 2.5
3
2 0.7
1.7 1.8 1.7 2.8
2 1.2 1 0.5
0.6 0.3 0.3 3.2
1.6 2
0.9
1
-0.3
0
-2.1
-1
-3.1
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4*
2014 2015 2016 2017 2018
Q-o-q Y-o-y 2014 2015 2016 2017
* operative data
Private consumption Public consumption Gross capital formation Net exports
Source: Central Statistical Bureau of Latvia Source: Central Statistical Bureau of Latvia
Real GDP Growth (%) GDP Growth (2017, %)
6.4%
7.0%
6.0%
4.6%
5.0%
4.6%
4.0% 4.2%
4.0%
3.0% 3.0% EU-28: 2.4 %
3.0%
2.4%
2.1%
2.0%
1.9%
1.0%
0.0%
2011 2012 2013 2014 2015 2016 2017 2018F 2019F Estonia Latvia Czech Finland Austria France Belgium
AA-/A1/AA- A/A3/A- AA-/A1/AA- AA+/Aa1/AA+AA+/Aa1/AA+ AA/Aa2/AA AA/Aa3/AA-
Source: Central Statistical Bureau of Latvia, Ministry of Finance Source: Eurostat
6Wage and Employment Growth Boosts Domestic Demand
Unemployment is slightly below the natural rate; productivity growth is on the rise.
Unemployment: Headline and Natural Rates Participation and Employment Rates (age 15-64, %)
80
20
75
15
70
10
65
5 60
0 55
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2011 2012 2013 2014 2015 2016 2017 2018
Headline unemployment Natural unemployment Participation rate Employment rate
Source: Eurostat, Bank of Latvia Source: Central Statistical Bureau of Latvia data
Real Productivity Growth Per Worker (2012-2017 average, %) Average Monthly Wage For Full-time Job (Y-o-y, %)
3
10.0
2.3% 9.0
8.0
2
7.0
6.0
5.0
4.0
1
3.0
2.0
1.0
0
0.0
Latvia Estonia Czech France Belgium Austria Finland Q1'16 Q2'16 Q3'16 Q4'16 Q1'17 Q2'17 Q3'17 Q4'17 Q1'18 Q2'18 Q3'18
A/A3/A- AA-/A1/AA- AA-/A1/AA- AA/Aa2/AA AA/Aa3/AA- AA+/Aa1/AA+ AA+/Aa1/AA+ Gross Nominal Wages Real Net Wages
Source: Eurostat Source: Central Statistical Bureau of Latvia data
7Inflation Declined in 2018 to 2.6%
Latvia has maintained moderate and predictable inflation for years. Core inflation is moderate and stable.
Inflation (HICP, %) Harmonised Index of Consumer Prices (Dec 2018, 12 months average %)
4 3.5% 3.5%
3
3.0% 3.0%
2 2.6%
2.5% 2.5%
1
2.0%
EU-28: 1.9% 2.0%
0
1.5% 1.5%
-1
-2
1.0% 1.0%
Jul-12
Jul-13
Jul-14
Jul-15
Jul-16
Jul-17
Jul-18
Jan-12
Sep-12
Sep-13
Mar-12
Nov-12
Jan-13
Mar-13
Nov-13
Jan-14
Sep-14
Sep-15
Jan-16
Sep-16
Mar-14
Nov-14
Jan-15
Mar-15
Nov-15
Mar-16
Nov-16
Jan-17
Sep-17
Sep-18
Mar-17
Nov-17
Jan-18
Mar-18
Nov-18
May-12
May-13
May-14
May-15
May-16
May-17
May-18
0.5% 0.5%
0.0% 0.0%
Energy Food, alcohol, tobacco Estonia Latvia Belgium Austria Czech France Finland
AA-/A1/AA- A/A3/A- AA/Aa3/AA- AA+/Aa1/AA+ AA-/A1/AA- AA/Aa2/AA AA+/Aa1/AA+
Inflation Inflation excl. energy, food, alcohol, tobacco
Source: Central Statistical Bureau of Latvia data, Bank of Latvia calculations Source: Eurostat
Inflation In Latvia (HICP, %) Harmonised Index of Consumer Prices Projection (2018-2019, %)
3.50% 3.50%
2.7%
3.00% 3.00%
2.50% 2.50%
3.2
2.8 2.9 2.9 3.0
2.6
2.3 2.5 2.4 EU-28: 1.8%
2.00% 2.00%
2.3
1.7 1.8
1.50% 1.50%
0.4 0.6
0.0 0.2 0.1 1.00% 1.00%
- 0.1 - 0.2 0.50% 0.50%
- 0.7 - 0.6
0.00% 0.00%
2012 2013 2014 2015 2016 2017 2018 Estonia Latvia Belgium Czech Austria France Finland
Total inflation Goods inflation Services inflation AA-/A1/AA- A/A3/A- AA/Aa3/AA- AA-/A1/AA- AA+/Aa1/AA+ AA/Aa2/AA AA+/Aa1/AA+
Source: European Commission, Autumn projection, 2018
Source: Central Statistical Bureau of Latvia data
8Improved Competitiveness and Value-Added Products Drive Exports
Favourable position in both price and quality competitiveness underpins strong current account position.
Export of Goods and Services (2010=100) Goods Exports Growth (% growth between 2009 and 2017)
130 121.5%
125
120
115
110 EU-28: 66.4%
105
100
95
90
85
2010 2011 2012 2013 2014 2015 2016 2017 Latvia Czech Estonia Austria Belgium France Finland
A/A3/A- AA-/A1/AA- AA-/A1/AA- AA+/Aa1/AA+ AA/Aa3/AA- AA/Aa2/AA AA+/Aa1/AA+
Czech Republic Estonia Latvia
Lithuania Slovak Republic Slovenia
Source: World Trade Organization Source: Eurostat
High – Tech Exports (% Of Total Exports) Current Account Balance (% GDP)
16 1.6%
14 0.9%
0.7%
12
10
8
6 -0.5%
4
-1.7%
2
0 -2.7%
2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
-3.6%
Germany Latvia
2012 2013 2014 2015 2016 2017 2018F
Source: Eurostat
Source: Bank of Latvia; F – Bank of Latvia's forecast
93. Banking Sector Well-Capitalized, Profitable, and Beginning to Lend Again
Sound, Well Capitalised and Liquid Banking Sector
Latvia’s outstanding growth engine has been supported by well capitalized banking sector, majority of which is owned by
large Nordic banking groups.
Key Highlights Capital Ownership of the Banking System (4Q 2018)
The Latvian banking sector is dominated by subsidiaries and branches of banks
from the European Economic Area, mostly Nordic countries1
Capitalisation and liquidity ratios are well above minimum requirements. 18%
Domestically
27%
The three largest banks are directly supervised by the ECB. Four banks fall
under the remit of the Single Resolution Mechanism
Nordic
The fallout from the closure of Latvia’s largest non-resident-serving banks in
February 2018 has been well contained. Non-resident deposits have continued
to fall, but the liquidity and capital ratios of the banks serving the sector remain Other
high. The reduction of non-resident deposits has markedly lowered Latvia's
short-term external debt without undermining the country's economy, fiscal 55%
position, or financial system
Source: 1FCMC, 2EBA risk dashboard, fully loaded ratio Source: Bank of Latvia
Capital Adequacy (%) Liquidity Coverage Ratio
400%
26
24 350%
22 300%
20
18 250%
16
14 200%
12
10 150%
8 100%
6
4 50%
2
0 0%
2011 2012 2013 2014* 2015 2016 2017 2018 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
2016 2017 2018
Total capital ratio CET1 ratio Minimum requirement for total capital ratio (8%)
Liquidity Coverage Ratio (%) Minumum requirement
Source: FCMF | Note: As of Q1 2014 capital adequacy is calculated according to the CRDIV/CRR requirements and is Source: FCMC
not directly comparable with the data until Q1 2014 due to differences in methodology. Tier 1 ratio matches CET 1
ratio. The regulatory minimum capital adequacy requirement is 8%. Since 28 May 2014 the FCMC also applies a 2.5%
capital conservation buffer.
10Bank Lending Recovers and Supports Growth
Domestic lending recovers and loan portfolio quality is above EU average.
Key Highlights Loans to Domestic Clients excluding Government (yoy)
After a prolonged period of deleveraging, lending growth turned positive in April
15%
2016
o Loans to domestic households and NFCs stood at 36% of GDP in June 2018,
10%
down from almost 100% at the outset of the crisis
o Loan-to-deposit ratio has fallen substantially, leading to more balanced and
5%
sustainable domestic funding for loans
The quality of the loan portfolio is above EU average and the coverage ratio of
0%
overdue loans remains high 2012 2013 2014 2015 2016 2017 2018
The ECB bank lending survey indicates gradual increase in demand for loans in -5% Estonia Lithuania Latvia
Latvia. Lending standards remain stable. Expansionary monetary policy of the
*The time series have been adjusted excluding the one-off effects of loan write-offs,
ECB is a supportive factor for lending exchange rate fluctuations, reclassification, etc.
-10%
Source: ECB
Total Loan Portfolio Quality Domestic Loan-to-Deposit Ratio (%)
20% 195.2 2011 December
15% 2018 December
149.1
137.9
113.9 112.6
10%
91.7 95.9
89.0
5%
0%
2011 2012 2013 2014 2015 2016 2017 2018
Share of loan loss provisions in outstanding loans
EE LV LT EZ
Share of loans over 90 days past due in outstanding loans
Source: FCMC Source: ECB
11Banking Sector Profitability Remains Healthy
Banking sector profitability is supported by stable interest spread and economic growth.
Key Highlights ROE Dispersion
40% 40%
Profitability of domestically active banks is sound and returns gradually 30% 30%
increase as a result of a favorable macrofinancial conditions. 20% 20%
10% 10%
The profitability of banks servicing foreigners is volatile due to ongoing de- 0% 0%
-10% -10%
risking that resulted in a decline in their business volume. Although banks
-20% -20%
servicing foreigners posted a profit in 2018, a further deterioration in their 2016* 2017** 2018 2016* 2017** 2018
profitability is expected. Domestically active banks Banks servicing foreigners
Interquartile range Min-max range Weighted average Median
Average Return on Equity (RoE) of the Latvian credit institutions is relatively Source: Bank of Latvia | Noted: *One-off adjusted data – VISA transaction in 2016, **One-off adjusted data.
high and still exceeds the EU average. In 2018, average RoE was 10.2%
Interest Spread on Outstanding Loan Amounts
(9.1% in 2017); EU average – 7.2% (EBA Risk Dashboard Q3 2018).
8%
As a result of record-low loan and deposit rates, interest rate spread on 7%
6%
outstanding amounts remains stable at around 3 pp.
5%
4%
3%
2%
1%
0%
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Interest rate on deposits Interest rate on loans
Source: Bank of Latvia
12The Economic Impact of Tighter AML CFT is Minimal
Latvia’s banking system is dominated by banks owned by strong Nordic parents, funded through domestic deposits,
lending to Latvia-based clients. Banks funded through foreign currency deposits play a small role in Latvia’s economy.
The Role of Foreign Clients Banks in Latvia Growth Rates of Domestic and Foreign Client Deposits
Total Banking Assets Total Domestic Lending Total Domestic Deposits 25% Introduction of tougher
15% AML/CFT requirements
5%
7% 7% - 5%
21% - 15%
- 25%
- 35%
- 45% Weaker CIS economies
- 55%
- 65%
2012 2013 2014 2015 2016 2017 2018
Annual growth rate of foreign client deposits (adjusted for exchange rate)
Source: Bank of Latvia, December 2018 Annual growth rate of domestic non-financial private sector deposits
Source: Bank of Latvia
Economic Impact of ABLV Bank Liquidation in February 2018 Bank Liquidity Ratios Well Above CRR IV Requirement
• There have not been obvious spill-overs to the resident serving sector, which is 500%
dominated by subsidiaries of Scandinavian banks, due to their lack of 450%
interconnectedness 400%
350%
• NRDs fell mostly in the first half of 2018, in the second half of 2018 NRDs have
300%
stabilized; the liquidity and capital ratios of foreign clients serving banks remain
250%
high
200%
• The reduction of NRDs has markedly lowered Latvia's short-term external debt 150%
without undermining the country's economy, fiscal position, or financial system 100%
• Funds covering guaranteed deposits were transferred from ABLV and currently 50%
the deposits are being paid out 3Q 2016 4Q 1Q 2017 Q2 Q3 Q4 1Q 2018 Q2 Q3 Q4
Deposit flight has not spread to other banks whose business models are based Banks servicing FCs** Domestically active banks* Minimum requirement for LCR
primarily on domestic funding and lending
Source: FCMC
Source: Bank of Latvia,
*Fitch (Latvia sovereign risk from ABLV Bank failure appears limited, 27.02.2018.)
13Parent Banks are Stable, Financially Sound and Profitable
Banks have high credit ratings, good profits, and on average they outperform their European peers on stock exchanges
(compared to Eurostoxx Bank index).
Key Highlights Banks Financial Information
Financial performance and capitalization level of the parent banks are Swedbank SEB Luminor*
strong DNB Nordea
Nordic banking groups' profitability is higher than the average in Europe Assets (EUR mil)* 5,583 3,585 4,591
Banks continue to invest in IT related projects to increase their CAR (%)* 26.6 18.9 16.9
operational efficiency and lower administrative expenses ROE (%)* 15.0 11.9 9.9
Since January 2, 2019 Luminor Bank Latvia was branch of Estonian S&P Global long term rating AA- A+ *
registred Luminor Bank. Luminor completes its banks` cross-border Moody`s long term rating Aa2 Aa2 *
merger.
Fitch long term rating AA- AA- *
Source: Association of Latvian Commercial Banks – financial reports, 3rd quarter 2018 | *October 2017 Nordea group and DNB entities
merged in the Baltics into one financial institution Luminor. Data on Luminor credit rating to be assigned.
Deposits (EUR bn) Banking Groups' Equity Prices (01.01.2015 = 100, local currency)
180
12.4
160
13.0
140
10.8 8.1
120
5.1 100
3.4 3.1 3.3
80
60
40
2015 2016 2017 Jan Feb Mar Apr May Jun Jul Aug Sept Oct Nov Dec
2018 2018 2018 2018 2018 2018 2018 2018 2018 2018 2018 2018
2015 2016 2017 2018 2019
Domestic Foreign Nordea DNB SEB Swedbank Eurostoxx Banks
Source: The Financial and Capital Market Commission
144. Fiscal Policy Disciplined Approach Drives Improved Credit Profile
Fiscal Sustainability Remains Top Priority
Prudent fiscal management targets low and sustainable government deficit while improving the quality of spending.
General Government Budget Balance (% of GDP) Budget Balance (2017, % GDP)
2012 2013 2014 2015 2016 2017 2018* 2019** 2020** 2021**
0.2
0.1
0.0
-0.2
-0.4
-0.2
-0.6
-0.4 - 0.6
-0.6
-0.8
-0.7 -0.6 EU-28: (1.0)%
-1.0
-1.2
-1.2 -1.2 * - latest Ministry of Finance France Belgium Austria Finland Latvia Estonia Czech
-1.4
-1.4 assessment AA/Aa2/AA AA/Aa3/AA- AA+/Aa1/AA+ AA+/Aa1/AA+ A/A3/A- AA-/A1/AA- AA-/A1/A+
-1.6
-1.5 ** - target
Source: Ministry of Finance Source: Eurostat
Spending Review Results (EUR, Million) 2018 Budget: Expenditure Measures (EUR million)
Healthcare services
336.6 2018
Strengthening national security
Demographic measures, support to foster families
and guardians, strengthening social program
28.6 Road maintenance and construction
25.4
2019 367.8 Remuneration of higher education teachers,
additional funding for research
35.3 29.7 Eastern border and strengthening internal security
Support to cultural projects and media,
2018 2019 implementation of integration measures
401.1 2020
Reallocated resources to common government priorities Combating shadow economy, modernizing tax
Internal resources for own sectoral priorities information services
Source: Ministry of Finance Source: Ministry of Finance
15Pension Reform Underpins Stability of Public Finances
Latvia is well positioned to withstand fiscal challenges arising from an aging population.
Latvia’s Pension System And Recent Reforms Age-related Spending, Projected Change (2016-2070 , % GDP)
Latvia’s reformed pension system consists of three tiers:
1. state compulsory unfunded pension scheme (the 1st tier)
2. state funded pension scheme (the 2nd tier)
3. private voluntary pension scheme (the 3rd tier)
In 2012, measures were introduced to address long-term sustainability:
– starting with 2014 retirement age is gradually increased by 3 months each
year until it reaches 65 years in 2025
– minimum contribution period to secure full pension was increased from 10 to
-1.4
15 years starting from 2014 and up to 20 years starting from 2025
– contributions to the funded, e.g. 2nd tier, pension scheme increased from 2% France Latvia Estonia Finland Austria Belgium Czech
to 4% in 2013, to 5% in 2015, and to 6% in 2016 AA/Aa2/AA A/A3/A- AA-/A1/AA- AA+/Aa1/AA+ AA+/Aa1/AA+ AA/Aa3/AA- AA-/A1/AA-
Source: The State Social Insurance Agency Source: European Commission Ageing Report, May 2018
The 2nd Tier Pension Net AUM Latvia’s age-related spending is among the lowest in EU
(EUR billion, % GDP)
(2016, % GDP)
4.0
12.2% 12.0%
11.0%
3.5
9.6%
8.5% 3.5
3.0
3.3
7.4%
2.5
6.7% 2.8
6.2%
2.0
2.3
2.0 16.4
1.5
1.7
1.5
1.2
1.0
0.5
0.0
Latvia Czech Estonia Belgium Austria Finland France
2011 2012 2013 2014 2015 2016 2017 2018 2Q A/A3/A- AA-/A1/AA- AA-/A1/AA- AA/Aa3/AA- AA+/Aa1/AA+ AA+/Aa1/AA+ AA/Aa2/AA
2nd tier pension net assets (EUR billion) 2nd tier pension net assets (% of GDP)
Source: Financial and Capital Markets Commission, Central Statistical Bureau of Latvia Source: European Commission Ageing Report, May 2018
165. New Reform Push Targets Productivity and More Inclusive Growth
Latvia’s Advanced Country Status Reflected in “Soft” Metrics
Expanded structural reforms build on existing high institutional strengths and favourable business environment.
World Bank “Ease of Doing Business” Ranking World Bank Worldwide Governance Rankings
Estonia 80 83
16 79
AA-/A1/AA- 71 74
70 66 69 66
Finland 63 62 64
17
AA+/Aa1/AA+
Latvia
19
A/A3/A-
Austria
26
AA+/Aa1/AA+
France
32
AA/Aa2/AA
Czech Control of Rule of Law Regulatory Quality Government Political Stability Voice and
35 Corruption Effectiveness and Accountability
AA-/A1/AA- Absence of
Belgium Latvia Regional Average Violence
45
AA/Aa3/AA-
Source: World Bank, 2017 Rankings dated 21st September 2018. Regional Average based on Europe and Central Asia
Source: World Bank, Doing Business 2018 countries
Adjusted Top Statutory Tax Rate on Corporate Income (2018, %) The Global Competitiveness Index Rankings
Global Sustainable Competitiveness Index
Finland 11 4 Finland
Global Competitiveness Index Ranking
Belgium 21 9 Latvia
34 Czech Rep. 29 10 Estonia
30 Italy 31 11 Slovenia
Portugal 34 15 Croatia
25
Slovenia 35 18 Slovakia
Ranking
19 20 20 20 Poland 39 Czech Rep.
21
Lithuania 40 23 Lithuania
Slovakia 41 26 Belgium
Latvia 42 27 Romania
Hungary 48 31 Italy
Bulgaria 51 33 Portugal
Romania 52 40 Hungary
Czech Latvia Finland Estonia Austria Belgium France
AA-/A1/AA- A/A3/A- AA+/Aa1/AA+ AA-/A1/AA- AA+/Aa1/AA+ AA/Aa3/AA- AA/Aa2/AA Croatia 68 46 Bulgaria
Source: European Commission, Taxation Trends in the European Union 2018 Source: World Economic Forum, The Global Competitiveness Report 2018, The Global Sustainable
Competitiveness Report 2017
17Reform Policies Laying Foundation for New Growth Model
Structural reforms in education, employment and judicial environment help improving labour market and business
conditions.
Education, Research and
Increasing the quality of education and research, fostering investments in R&D and innovations
Innovations
Labour Market, Social Policy Addressing labour market issues through education and employment policies; decreasing tax burden on labour;
and Healthcare activating social benefit recipients; improving accessibility, quality and efficiency of healthcare
Business Environment SME access to financing, export oriented programmes, reduction of administrative burden
Public Administration and Increasing efficiency of public administration, strengthening the conflict of interest prevention regime, improving tax
Judiciary compliance; improving the insolvency regime and accountability of insolvency administrators
Source: National Reform Programme 2016; European Commission, Country Report Latvia 2016; EU Council’s recommendations 2016; OECD Economic Survey on Latvia 2015
Healthcare Reform Education Reform (2015, % GDP)
Aimed to improve governance, clearer principles of resource allocation and more Funding for education is adequate, but the education system network and
efficient use of funds number of pupils per teacher are not optimal.
Implementation of Public Health Guidelines 2014 - 2020 to encourage the health Teacher remuneration reform starting from September, 2016: (i) fixed minimum
care system availability, quality and cost-effectiveness salary for teacher; (ii) school network rearrangement; (iii) increase in funding for
8.0
teachers' salaries.
7.0
Healthcare long term funding reform 6.0
EU-28: 4.7%
5.5
5.0
Stability and Growth Pact deficit derogation for 2017 - 2019 was granted 4.0
for healthcare reform (e.g., reducing waiting line; detection of cancer and 3.0
improving access to treatment; reform of reimbursable drugs for patients of 2.0
chronic hepatitis C). 1.0
0.0
Czech Austria France Latvia Estonia Finland Belgium
AA-/A1/AA- AA+/Aa1/AA+ AA/Aa2/AA A/A3/A- AA-/A1/AA- AA+/Aa1/AA+ AA/Aa3/AA-
Source: Eurostat
18EU Playing Key Role in Funding Structural Change in Latvia
Efficient and well targeted absorption and use of EU funds will promote competitiveness and stimulate economic growth
as well as support necessary structural reforms.
Allocation Of EU Funds For 2014-2020 By Priority Axes EU Cohesion Policy Accompanies Structural Reforms
The Latvian economy and the goals envisaged by the National Development
4% Plan are strongly supported by well targeted and smart EU cohesion policy
4%
2% funds (EU funds like Structural funds and Cohesion Fund) and investments.
26%
7%
EUR 4.4 billion EU funds are available for targeted and smart investments in
Latvia within the 2014 - 2020 programming period across major nine priority
areas with the general aim to enhance competitiveness of Latvia’s economy and
9% reinforce the country’s solid foundation for sustained and smart growth.
EUR 3.2 billion EU funds are already contracted for investment projects.
During 2007 - 2013 period Latvia has successfully completed the investment
11% programme supported by EUR 4.5 billion Cohesion Policy EU funds (100% of
14%
EU funds «envelope» for Latvia).
Source: Ministry of FInance
11% 12%
EU Funds After 2020 and Government’s Support
Promoting sustainable transport and removing bottlenecks in key network infrastructures
The European Commission has published a proposal for the new multiannual
Protecting the environment and promoting resource efficiency financial framework after 2020 in May 2018. EU leaders aim to reach an
Investing in education, skills and lifelong learning agreement for the new multiannual financial framework in autumn 2019.
Supporting the shift towards a low-carbon economy in all sectors The European Commission expects to start negotiations regarding planning
Strengthening research, technological development and innovation documents of the framework in 2019.
Promoting social inclusion and combating poverty Initial European Commission proposal for Latvia’s Cohesion policy allocation is
Enhancing the competitiveness of small and medium-sized enterprises 4.26 billion EUR (in 2018 prices). Allocation will be a subject of negotiations and
Latvia will insist on bigger allocation.
Enhancing access to, and use and quality of, information and communication technologies
Promoting employment and supporting labour mobility
Latvia will remain eligible to receive support from all three Cohesion policy funds
(Cohesion Fund, European Regional and Development Fund, European Social
Technical assistance
Fund).
Source: Ministry of Finance EU funds investment progress is transparent and can be followed:
www.esfondi.lv
19Pro-growth Tax Reform in Line with Balanced Budget Mandate
Key goals: improve competitiveness, promote exports, reduce inequality and raise revenue to one-third of GDP.
Strategy framework Main changes
Tax structures and rates review
Non-taxable minimum – EUR 250
Improving tax administration Differenced depending on income level from EUR 0 / month to EUR 250 per month (2020)
The fight against the shadow economy
Allowance for dependents
Principles EUR 250 per month (2020)
Predictability and a long-term vision
Regional competitiveness, at least in the Baltic region Minimum salary
from EUR 380 to EUR 430
Tax motivation for improvement
A similar tax burden on similar types of revenue
Social contribution
Lending and capitalization improvement
increase by 1% directed to health care
Reducing the cost of tax administration
Positive impact on economy Reform of Solidarity tax
Raise disposable income of employees and induce private consumption
More competitive entrepreneurs on regional and global scene as well as PIT rate smoothing
stimulation of own investment
Better capitalized businesses, more opportunities to raise additional funds for
Progressive Personal Income Tax
development Decrease from 23% to 20% for year’s salary up to EUR 20,004, 23% for EUR 20,004 –
Increased prospects to raise production capacity of goods and services, more 62,800, 31,4% for above EUR 62,800
effective and efficient production process
More equality between different income groups and types of income Corporate Income Tax
20% on distributed profit; no CIT is payable on undistributed profits
Higher tax revenue resulting from increased economic activity and less tax
avoidance
Source: Ministry of Finance
206. Government Debt and Funding Strategy
Public Debt on Declining Trend
Latvia remains committed to keeping government debt at moderate levels.
Key Characteristics of Latvia’s Government Debt General Government Debt Year End
(EUR million, % GDP, ESA methodology)
Fiscal consolidation and reduction of the deficit along with economic growth has 50% 20000
helped stabilise levels of government debt 45%
39% 41% 40% 40%
18000
39%
General government debt is amongst the lowest in the EU at 40% of GDP at the 40%
37% 38% 16000
end of 2017. It is the 4th lowest in the Eurozone and the 8th lowest in the EU 35% 14000
Latvia enjoys one of the lowest debt servicing costs across the region,
30% 12000
25% 10000
significantly lower than the EU and Eurozone averages
20% 8000
Since March 2014 Latvia participates in the European Stability Mechanism, 15%
11 874 6000
9 669 10 092 10 807 10 891
which provides additional financial stability to its members 10% 8 893 8 953 4000
5% 2000
0% 0
2013 2014 2015 2016 2017 2018F 2019F
Source: Eurostat, The Treasury
Debt Servicing Costs (% GDP) General Government Debt (2017, % GDP)
3.5 120
103 %
3.0 99 %
100
EU-28: 82 %
2.5 78 %
80
2.0 61 %
60
1.5 40 %
40
35 %
1.0
9%
20
0.5
2011 2012 2013 2014 2015 2016 2017 2018F 2019F 0
Estonia Czech Latvia Finland Austria France Belgium
Latvia Lithuania EU-28 Eurozone AA-/A1/AA- AA-/A1/AA- A/A3/A- AA+/Aa1/AA+ AA+/Aa1/AA+ AA/Aa2/AA AA/Aa3/AA-
Source: European Economic Forecast, Autumn 2018, European Commission Source: Eurostat
21Conservative Borrowing Based on Pre-funding
Latvia is conducting a prudent and efficient debt management strategy.
Government Gross Borrowing (EUR million)
1 087
763 534
737 156
621
905 936 833 944
529 593
2016 2017 2018 2019F 2020F 2021F
Total gross borrowing Pre-funding reserve
Source: The Treasury
Latvia Secondary Eurobond Market (mid yield to maturity, %) Borrowing activities in international capital markets in 2018
3.3 3.14
• Latvia tapped the market twice with dual tranche Eurobond issues
2.8 3.11 • In May, Latvia priced the Eurobond dual-tranche in the international capital
2.3
1.80
markets in a total amount of EUR 650 million
1.8
Mid YTM, %
1.50 • In September, Latvia reopened two of its outstanding Eurobonds:
1.3
0.70 0.83 o Notes maturing May 30, 2028, with coupon 1.125% were increased by
0.8 0.53 0.63
0.28
0.15 EUR 150 million (yield 0.997%);
0.3 0.05 0.31
-0.2 -0.07 o Notes maturing February 15, 2047 with coupon 2.250% were increased by
-0.37 -0.13
-0.7 EUR 200 million (yield 1.861%).
0 5 10 15 20 25 30
LATVIA EUR bond yield curve LATVIA USD bond yield curve
LATVIA domestic bonds
Source: Data as of 7th February 2019, Bloomberg
22Domestic Market Continues to Perform Strongly
Demand is steady and average yields remain low.
Domestic Securities Outstanding by Original Maturity Domestic T-Bond Competitive Multi-Price Auctions
(end of the December 2018, %)
35 9
0.4% 0.5%
13.4% 30 8
7
5 years bonds 25 5.8 6.2
5.1 6
20 4.9
4.6 4.6 4.4 5
4.1
3 years bonds 15 3.6 3.5 3.6 3.3 3.1 4
3.2
10 2.5
3
20.3% 10 years bonds 5 2
0 1
5-y
5-y
5-y
5-y
5-y
5-y
5-y
5-y
5-y
5-y
5-y
5-y
5-y
5-y
5-y
11 years bonds
65.4%
Jan Feb Apr May Jun Jul Aug Sep Oct Nov Dec Jan
Savings bonds
2018 2019
Amount sold, million EUR (LHS) Bid-offer Ratio (RHS)
Source: The Treasury | Note: Bid-to-Cover ratio: Bid Amount to State Treasury offered amount, * Since 2015 6m
• Primary dealer system operates since 11 February 2013. Domestic debt
T-Bills benchmarks are tap issues of original 12m T-Bills in maturity brackets from 4.5 to 9 months.
securities outstanding constituted EUR 1.156 billion as of 9th January 2019
• The Treasury maintains regular domestic debt securities auctions offering Last 5 year T-Bond auction results
medium term T-bonds. Long term segment is covered by international issues
• On 9th of January, Latvia had its last T-bond auction
• For several years Latvia has concentrated domestic supply mainly in 5-year
segment and focuses on increasing the liquidity • Nominal value of 24 million EUR were sold in a competitive multi-price auction
with total demand of 75.2 million EUR (bid-offer ratio of 3.13)
• A new 5-long T-bond program was opened at the end of October, 2018. Coupon
was fixed at the 0.500%. Currently amount outstanding is 110 million EUR. In • In addition, 6 million EUR were sold in non-competitive (fixed price) auction
order to maintain liquidity it is expected to continue regular auctions and
• The weighted average yield rate was 0.561%
gradually increase on-the-run 5-year T-bond program
Source: The Treasury
23Central Government Debt Profile
International Loan Programme has been largely refinanced in international capital markets, while government debt
redemptions remain moderate.
Debt structure by Instruments (%) Debt Redemption Profile (EUR million)
100% 1 600
Eurobonds
1 400
1 200
75%
Loans from financial 1 000
institutions (incl.IMF
and EC loans) 800
50% Domestic T-bonds 600
400
25% Domestic T-bills 200
0
2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 - 2036 2037 - 2047 >=2048
2035 2046
0% Other
2Q14 4Q14 2Q15 4Q15 2Q16 4Q16 2Q17 4Q17 2Q18 4Q18 Domestic debt redemption Other external debt liabilities World Bank loan (Program)
EC loan (Program) Eurobonds
Source: The Treasury Source: The Treasury
Outstanding Bonds in the International Markets (nominal amount, million) Debt Portfolio Management
2021 5.250% 16/06/2021 Parameters Strategy 30/09/2017 31/12/2018
USD
2020 2.750% 12/01/2020 Maturity profile (%)
• up to 1 year ≤ 25% 13.5% 13.4%
2047 2.250% 15/02/2047
2036 1.375% 16/05/2036 EUR • up to 3 year ≤ 50% 41.9% 40.5%
2028 1.125% 30/05/2028 Share of fixed rate(1) ≥ 60% 90.1% 90.1%
2026 0.375% 07/10/2026
Macaulay duration (years) 5.00 – 9.00 6.64 6.49
2025 1.375% 23/09/2025
2.875% 30/04/2024
Net debt(2) currency 100% EUR with a
2024 99.96% 100.07%
composition deviation of +/- 5%
2021 2.625% 21/01/2021
2020 0.500% 15/12/2020 Source: The Treasury | (1)Fixed rate central government debt with a maturity over one year; (2)Central government debt
at the end of the period less the amount of loans and receivables, where impairment loss of guarantees are not taken
0 200 400 600 800 1000 in account (including Treasury’s cash accounts, investments in deposits and fixed income securities, loans, receivables
(including receivables of derivative financial instruments which are not classified as risky from credit risk perspective)),
Source: The Treasury and increased by provisions of guarantees as well as liabilities of derivative financial instruments which are
not classified as risky from credit risk perspective.
24Medium Term Funding Requirement and Borrowing Strategy
External borrowing instruments will represent the most significant share of the overall borrowing volume.
Medium Term Borrowing Strategy Borrowing Instruments (BASE scenario)
Ensure timely and full availability of financial resources for covering the Benchmark issuances in global capital markets
Goal
financing requirement, by maintaining continuous borrowing opportunities in Continuing issuances in domestic market
the international and domestic financial markets on optimal terms and
conditions
Alternative Instruments
• Flexibility (towards timing, maturities and currencies) Niche capital market instruments (JPY, CHF, etc.)
Principles • Achieve balance between risks and costs
• Consistency and transparency to markets Private placements (reverse enquiries)
Loans from international financial institutions (EIB, CEB, etc.)
General Financing Requirement Central Government financing estimation
(2019-2021, EUR million)
2019
31-January-2019 2020 2021
Jan Feb-Dec
Central Government Budget Balance
Central government budget balance,
139 -695 -503 -505
net lending and other flows
Net Lending Pre-funding Outstanding central government debt
Strategy For -20 -955 -1 295 -1 432
redemption
Other Flows Refinancing Of which:
at the Treasury`s Accounts Debt Domestic debt repayment 0 -376 -114 -91
External debt repayment -20 -579 -1 181 -1 340
Outstanding Central Government Debt Total 119 -1 650 -1 797 -1 937
Redemptions Gross borrowing 30 1 440 1 920 1 100
(domestic and external) Of which:
International issuance 0 1 000 1 800 1 000
Note: Indicative in the planned period
The borrowing volume could be increased in case of:
Possible restructuring of the government guaranteed commitments (loans)
Liability management activities
of several hospitals by refinancing / early repayment
257. Conclusion Building on Past Success, Facing Future Challenges
Investment Highlights
Latvia has fully recovered from the economic recession and restored its strong fiscal position, returning
to its previous standards of fiscal prudence. The economy is on a sustainable, robust growth path,
characterized by improved competitiveness, solid domestic demand, and a flexible business sector able
to adjust to external shocks.
Sustainable Debt Levels
and Prudent Fiscal Management Resilient towards external
Flexible and Resilient Economy Investor attractiveness shocks
Decreasing Unemployment Proven track record in overcoming
economic crisis in the past
Belongs to the Core of Europe Predictable public policies
EZ membership and outstanding track record
Member of all the important of successful structural reforms
international organizations Long term growth reinforced
Solid Export Growth
Well Capitalised Banking Sector
Balance of Payments improvement
Credit Growth is being restored Higher Credit Ratings Sustainable Current Account Balance
Economic Development promoted Investors confidence boosted due to reforms
and sound macroeconomic fundamentals
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