Published: 04.04.2015 Updated: 04.06.2024

The papers published in Discussion Paper series reflect analysis conducted by Latvijas Banka, aiming to foster public debate on critical issues for Latvia's economic development.

Zeynep Kantur

pdf 01 Discussion paper

Abstract

A stranded asset refers to economic assets that lose their ability to contribute value within their own sector and in other sectors due to the decarbonization of production processes required to meet global climate targets. This process involves either idling or abandoning a portion of physical capital, which can harm the sector in which it is employed and propagate negative effects throughout the entire economy. This study examines the exposure of sectors in Latvia to the risk of physical capital stranding resulting from decarbonizing the economy. Using Input-Output Tables and capital stock data, we quantify the effects of stranded assets and find that the mining and quarrying sector has the highest external asset stranding multipliers. The sectors in Latvia most vulnerable to the impacts of global fossil stranding include land transportation and pipeline transport (H49), electricity, gas, steam, and air conditioning (D35), and agriculture (A01).

Keywords: capital utilization, stranded assets, Input-Output Model, Ghosh mul- tipliers

JEL codes: C67, E22, L72

 

Ludmila Fadejeva, Jānis Mauris, Ieva Opmane, Andris Fisenko

pdf 01  Discussion paper

ABSTRACT

This paper presents results from the fourth wave of the Eurosystem Household Finance and Consumption Survey (HFCS) for Latvia conducted in 2020. The paper focuses on the net wealth components of the household balance sheet – real assets, financial assets and liabili- ties. The report includes three special boxes – on precautionary savings, on potential change in household balance sheet due to rising interest rates and expenditures, and on the effect of Covid-19 pandemic. A detailed description of the use of administrative data in the HFCS database construction is provided in the Appendix.

Keywords: household finance and consumption survey, Latvia, assets, liabilities, net wealth, financial vulnerability, income, consumption
JEL Codes: D14, D31, E21

Oļegs Krasnopjorovs

pdf-01.png  Discussion paper

ABSTRACT

Improving urban quality of life is now increasingly at the top of the political agenda of modern cities. However, right policy treatment requires a thorough analysis and correct diagnosis. This paper is designed as such a diagnostic tool in the hands of urban policy makers aimed to drive the urban structural reform agenda in Riga – the regional centre of the Baltics. We provide a systematic assessment of the quality of life in Riga city both over time and in the contexts of Latvia, the Baltics and Europe, as well as link it with a comparative economic development, demographic trends, the availability of housing and dynamics of local tax revenue receipts. We find that although the quality of life in Riga tends to improve over time, in many areas progress appears to be slower than in the neighbouring capital cities - Vilnius and Tallinn. While Riga performs rather well in terms of economic growth and environmental quality compared to other European cities, we identify a large room for improvement in the areas of social trust, the quality of urban governance and how pleasant a city is to live. By running the principal component analysis on the most recent wave of Eurobarometer survey and applying the data envelopment analysis to build the European urban quality of life frontier, we conclude that Riga has a great potential to improve the urban quality of life even with its current population size and the GDP per capita level. The paper highlights how the quality of life, economic prosperity, the availability of housing, size of city budget and population growth are all closely linked in an urban context, making all these variables mutually dependent.

Keywords: urban quality of life, urban life satisfaction, safety, trust, environment, transport, infrastructure, governance, population growth, housing, municipal budget, economic growth
JEL code: O18, R11, R23, R5

Anete Briņķe, Ludmila Fadejeva, Boriss Siliverstovs, Kārlis Vilerts

pdf 01  Discussion paper

ABSTRACT

We use a novel card transaction data from the Latvijas Banka to study the consumption response to the Covid-19 pandemic in Latvia throughout three separate waves of the pandemic. We find that card transaction activity fell similarly in all three waves. There is also some suggestive evidence that during the second and third waves of the pandemic, the consumption response was largely caused by the containment measures instead of the behavioural adjustment of consumers. The consumption response varied greatly across different sectors with the Airlines and Entertainment sectors faring the worst. However, the situation was not homogeneous during the three waves of the pandemic, given the changing composition of the containment measures. We show that merchants with a higher share of online transactions in the prepandemic period fared better than others during the second and the third waves of the pandemic. Similarly, we also find evidence that investment in online platforms during the initial phases of the pandemic seems to have resulted in better resilience in the following waves. Finally, we show that the nowcasting model with card transaction data outperforms all benchmark models when it comes to retail nowcasting and yields a notable improvement in forecasting metrics.

Keywords: card transactions, consumer spending, Covid-19, retail trade nowcasting
JEL code: E21, E27, C32, C53

Konstantīns Beņkovskis, Oļegs Tkačevs, Kārlis Vilerts

pdf 01  Discussion paper

ABSTRACT

This paper analyzes the determinants of interest rate spreads during the period 2014–2020 in the euro area, with a focus on the Baltic countries. Against the background of accommodative monetary policy, interest rates on loans in the euro area have declined markedly, except in a few countries. In Latvia, Lithuania and Estonia, interest rates on new loans to non-financial corporations in 2020 were about the same as in 2014, and at the same time they were among the highest in the euro area. In this study, we apply the Ho and Saunders (1981) theoretical framework to identify explanatory factors of spreads and use the obtained econometric estimates to calculate the so-called pure spread by subtracting the influence of the bank funding structure and other bank-specific factors from the interest rate spread. Our study shows that even after accounting for the conventional determinants of interest rate spread, differences in the pure spread between euro area countries, especially between the Baltic countries and the rest of the euro area, persist. In part, these differences can be explained by varying degrees of financial sector market concentration. However, the bulk of the gap in spreads remains unexplained. The findings of this paper suggest that properly designed policy measures are needed to reduce spreads in the Baltic countries and lessen the fragmentation in the euro area. This would allow for more effective monetary policy transmission and stimulate lending and post-Covid economic recovery in the Baltics.

Keywords: interest rate spread, interest rate on loans, market concentration
JEL code: G21, L11, E43, E52

Ludmila Fadejeva, Oļegs Tkačevs

Discussion paper

ABSTRACT

This study examines the impact of tax-favoured savings on total private savings using data for Latvia contained in HFCS 2014 and 2017. The survey shows that contributions to tax-favoured savings plans are not associated with lower consumer spending and therefore do not contribute to an increase in private savings. Instead, these savings are achieved by lowering other savings. This substitution effect on other savings remains statistically significant even when excluding households with very low consumption levels and the ones whose reference person is relatively young/old and with a low level of education. However, the observed effect is not significant at the very bottom of the distribution of non-favoured savings. Since participation in tax-favoured savings plans is mainly associated with households in the upper income quintile, the results of this study raise concerns that without additional measures to encourage retirement savings, particularly in the lower segment of the savings distribution, income inequality among retirees will continue rising.

Keywords: tax incentives, saving, private pension funds, HFCS

JEL code: D14, H24, H31, H55

 

Ludmila Fadejeva, Anete Migale, Miķelis Zondaks

Discussion paper

ABSTRACT
This paper presents Latvia's results from the third wave of the Eurosystem's Household Finance and Consumption Survey (HFCS) conducted in 2017. The paper focuses on the wealth components of the household balance sheet – real and financial assets, liabilities, as well as income and consumption. The HFCS questionnaire includes an extensive list of quantitative and qualitative questions; therefore, our paper presents changes in the household balance sheet taking into account both numeric and self-assessment aspects. The results are compared to the HFCS 2014 results in Latvia and the HFCS 2014 and the HFCS 2017 results in the euro area.

Keywords: household finance and consumption survey, Latvia, assets, liabilities, net wealth, financial vulnerability, income, consumption
JEL codes: D14, D31, E21

Konstantīns Beņkovskis, Oļegs Tkačevs

Discussion paper

ABSTRACT
This study provides new evidence on sector-specific differences in the age-productivity profiles in a country that has witnessed substantial shifts in the economic structure and features flexible labour market and high labour force participation among the elderly. Using a matched employer–employee dataset of Latvian firms, the paper unveils a conventional hump-shaped or downward sloping relationship in manufacturing and trade, but almost no or very small negative effect of ageing workforce in knowledge-intensive service sectors that largely employ high-skilled white-collar employees. The results suggest that investing in human capital, in particular training of elderly employees as well as addressing severe skill shortages in the ICT services sector have to be considered to reduce the downward pressure of ageing on firm performance. It also highlights the importance of efforts made by public institutions in improving health care and promoting healthier lifestyles to increase the number of healthy life years.

Keywords: firm productivity, ageing population, age-productivity profile
JEL codes: C23, L25

Oļegs Krasnopjorovs

Discussion paper

ABSTRACT
This paper investigates internal and external labour reserves in Latvia, Estonia and Lithuania. We find considerable internal labour reserves in the form of still high natural rate of unemployment and in hidden unemployment as many economically inactive people are available for work but are not actively engaged in job seeking. The employment rate is particularly low for upper-middle-aged men, especially those without a tertiary education degree, which is likely to reflect a low incidence of lifelong learning, low digital skills and rapidly deteriorating health condition. We document low employment of youth, mirroring low prevalence of apprenticeships. In Lithuania and Latvia, there is also a postponed entry of young women into the labour market. Moreover, the employment rate of Estonian women of fertile age who hold a tertiary education degree is consistently lower than that of their EU counterparts. These internal labour reserves total more than 25 thousand people in Estonia, 55 thousand in Latvia and 85 thousand in Lithuania, corresponding to 4%–7% of the total employment in these countries. Particular targeting on ethnic minorities and people living in disadvantaged regions is essential for activating these labour reserves. Moreover, we point to considerable external labour reserves in the form of more than a half million Baltic nationals currently residing in wealthier EU countries.

Keywords: labour market, employment, unemployment, participation, migration
JEL codes: J21, J82, E24

Kārlis Vilerts, Klāvs Zutis, Konstantīns Beņkovskis

Discussion paper

ABSTRACT
In recent years, local government spending has drawn a lot of attention from policy makers and researchers alike. Scientific literature does not give a clear preference either to centralisation or decentralisation of the provision of public services. The present paper employs econometric methods to obtain evidence pointing to a negative correlation between the size of Latvia's municipalities (novads) in terms of population and municipal spending per capita. Namely, the smaller the municipality, the higher the per capita costs of providing local government services. This is an especially important conclusion, considering Latvia's demographical trends resulting in a particularly notable reduction in the population of small municipalities. We have estimated that, given the declining population, municipalities will be unable to continue fulfilling their functions at the current scope without additional financing. Estimates also suggest that concentration of local government services in administrative territorial units that are larger in terms of population could result in significant savings that could be spent to improve either the supply or quality of services provided by municipalities.

Keywords: municipalities, local government spending, number of population, demographic trends
JEL codes: R12, R23, R58

Ludmila Fadejeva, Jānis Lapiņš, Līva Zorgenfreija

Discussion paper

ABSTRACT
This paper presents an overview of the main results of the Household Finance and Consumption Survey in Latvia, which was conducted in 2014 and collected responses from 2 814 individuals (1 202 households). Unique data on household wealth, includ¬ing their assets and liabilities, as well as income and consumption were gathered. The data this survey collects are representative of the population, and the survey is to be carried out regularly to study aggregate and distributional changes in household budgets, wealth components and inequality over time.


The survey results show that households in Latvia, in comparison with those in the euro area, have much higher ownership rates of the most important household asset – the main residence (76% vs. 61% respectively). However, the median value of this asset and of total assets is markedly lower than in the euro area. On the liabilities side, only one third of Latvian households have outstanding debt – one of the lowest readings among euro area countries. Taking all components of a household balance sheet together, the median net wealth of households in Latvia is 14 200 euro, which is more than seven times smaller than that of euro area households. While the largest net wealth holdings in the euro area are owned by the households where the reference person is at a pre-retirement age, it is the young households (especially the group aged 35–44) in Latvia that own the largest amounts of net wealth and earn the highest median income.

Keywords: household finance and consumption survey, Latvia, assets, liabilities, net wealth, financial fragility, income, consumption
JEL codes: D14, D31, E21

 

Konstantīns Beņkovskis, Santa Bērziņa, Līva Zorgenfreija

Discussion paper

ABSTRACT
We use an anonymised firm-level trade database provided by the CSB to evaluate Latvia's re-exports. We obtain estimates of re-export flows and the corresponding re-export mark-ups by solving a linear maximisation problem for each firm-product pair. We find that the share of re-export flows in the total merchandise exports and imports is significant and follows an increasing trend. The share of re-exports is especially important in product groups, such as transport vehicles, plastics, mineral products, as well as machinery and electrical equipment. The majority of re-export flows is directed to Latvia's closest neighbours Lithuania and Estonia, suggesting that the country serves as a sort of a regional transport hub. We also find that the average re-export mark-ups were sizeable allowing us to conclude that re-export operations may also provide an important contribution to Latvia's GDP.

Keywords: re-exports, firm-level data, Latvia, simplex
JEL codes: D22, F14

Oļegs Krasnopjorovs

Discussion paper

SUMMARY
Whether current unemployment in Latvia is mostly structural or cyclical recently provoked an intense debate among policy makers and academic researchers. This paper follows the method proposed by Barlevy (2011) to estimate natural and cyclical components of unemployment from the Beveridge curve model. It finds that at the end of 2014 unemployment in Latvia was quite similar to its natural rate. Zero cyclical component of unemployment suggests that aggregate-demand-stimulating policies would not bring unemployment down without creating inflationary pressures and competitiveness loss and, therefore, are not a preferred option. Instead, raising matching efficiency between the unemployed and vacancies would decrease natural unemployment from its current high of about 11%. Moreover, it was found that the lowest matching efficiency between the unemployed and vacancies is present among workers (compared to managers and professionals) and typical for Latgale region. This might reflect significant structural problems rather than low business cycle synchronisation with the other occupational groups and regions.

Key wordsunemployment, vacancies, Beveridge curve, cyclical unemployment, natural unemployment, structural unemployment
JEL codes: J63, J64, E24, E60

Olga Lielkalne, Nadežda Siņenko

Discussion paper

SUMMARY
The Discussion Paper analyses a risk cobweb diagram employed as an additional analytical tool for monitoring and assessing financial stability risks in Latvia. The aim of the risk cobweb diagram is to depict the most important financial stability risks across specified risk categories and the direction of their changes in a single chart. The risk cobweb diagram and the dynamics of the index corresponding to each risk category and its components make it possible to visualise and analyse development of external and domestic macrofinancial risks and vulnerability changes of the banking sector in Latvia by assessing the credit risk of non-financial corporations and households, profitability and solvency risks of credit institutions, as well as funding and liquidity risks. The Discussion Paper gives the overview of the use of the risk cobweb diagram and its methodology in other countries. It also outlines the process of the development of such a diagram in Latvia and describes selected risk categories and indicators. The Discussion Paper concludes that the results of the back-testing of the risk cobweb diagram have been adequate. In 2008 and 2009, the risk category assessments of the risk cobweb diagram signalled threats to financial stability, while risk category indices and their components allowed the identification of the areas where accumulation and materialisation of financial stability risks occurred.

Keywords: financial stability, risk cobweb diagram, risk categories, monitoring of financial system stability, assessment of financial system stability
JEL codes: E32, E44, E58, G10

Aleksejs Meļihovs

Discussion paper

ABSTRACT
The paper is devoted to the natural population change forecast in Latvia for the time horizon until 2030. The motivation for this paper is twofold. First, population ageing is an obvious problem for the whole EU with a tendency to worsen in the future. However, for EU11 countries, including Latvia, the situation is more challenging. Second, historical population data have been revised based on the results of the last population census that took place in Latvia in 2011. This data correction could help to make a clearer vision of future tendencies in demographic indicators.


The approach developed in 2007 by Hyndman and Ullah is used for the natural population change forecasting. This approach combines functional data analysis and principal components decomposition. Although the applied approach is a technical one, it is useful for understanding what a policy maker could deal with in 15–20 years from now in the case of no-policy-change and no-population-habits-change scenario. By understanding this issue, it could be easier for the policy makers to make right decisions with a long-run perspective helping population and economy to be prepared well for the problems associated with population ageing that will accumulate in the future.


The model is used to forecast mortality rate schedules separately for males and females as well as fertility rate schedules. The main findings of the paper are the following. The total period fertility rate is forecasted to increase to about 1.6 by 2030. Life expectancy at birth is projected to increase for males and females by 4 and 3.4 years respectively. Nevertheless, the natural population decrease in 19 years will reach 200 thousand including the decrease of about 190 thousand in population aged 20–64, while the old-age dependency ratio will increase to 36.5%.

Keywords: functional approach, fertility rates, mortality rates, population forecasting
JEL codes: F12, F15, F51

Konstantīns Beņkovskis, Jūlija Pastušenko, Julia Wörz

Discussion paper

ABSTRACT
The present paper analyses trade linkages between EU Member States and Russia taking into account the indirect trade links through global value chains based on data for 2011 from the World Input-Output Database combined with gross flows between Russia and individual EU countries. We base our conclusions on three indicators: gross exports in final use, value added in final use and value added in output. The latter two novel indicators are able to capture direct and indirect links jointly by allocating the full amount of Russia's value added in the EU's final domestic use and output (and vice versa: the EU's value added in Russia's final domestic use and output). In terms of direct export shares, Russia represents the EU's fourth largest trade partner, while the EU is Russia's largest trade partner. The Russian economy is also considerably more dependent on European value added in terms of both final use and producing output than vice versa. However, the degree of integration varies greatly across the EU Member States. For example, the Baltic States are notably more dependent on Russia's value added than vice versa. Moreover, certain economic sectors in the EU are strongly dependent on Russian inputs, such as the energy sector, utilities and air transport.

Keywords: trade integration, global value chains, Russia, European Union
JEL codes: J11, C53, C14, C32, O11, O52

 

Mikus Āriņš, Nadežda Siņenko, Laura Laube

Discussion paper

ABSTRACT
This Discussion Paper is an attempt to provide insight into the debt servicing capacity of Latvian households and its sustainability under the impact of different macroeconomic shocks based on individual household data obtained by surveying households with at least one loan for house purchase. To assess the financial situation of these households, changes in the household solvency are modelled under the impact of different economic shocks (shrinking employment income, rising interest rates, loss of jobs) and the obtained results are generalised to the aggregate portfolio of loans granted by Latvian credit institutions to households for house purchase. The results obtained lead to a conclusion that following the financial crisis household solvency is still fragile and possible negative shocks might contribute to higher potential losses of credit institutions. At the same time possible losses to lenders arising from such adverse shocks might be lower than two years ago since the value of collateral has increased with real estate prices moving up, while outstanding loans granted for house purchase have declined.

Keywords: analysis of household solvency, stress tests, sensitivity analysis, financial margin, macroeconomic shock scenario, microdata
JEL codes: C15, C35, D14, E21, G21

Nadežda Siņenko, Deniss Titarenko, Mikus Āriņš

Discussion paper

ABSTRACT
The objective of this Discussion Paper is to develop a methodology for Latvian FSI. To this effect, the particular methodologies widely used in international practice for composite indicators applied in financial stability monitoring and the experience of selected countries were examined. The authors analyse the nature of financial stress and the related symptoms and offer their interpretation of the financial stress concept. The Paper provides the rationale behind the selection of the individual indicators (components) comprised in the FSI, evaluates various options for aggregating the FSI components as well as features a comparison between the methodology applied for the Latvian FSI and the practice pursued in other countries. The main conclusion presented in the Discussion Paper is that the dynamics of the FSI developed on the basis of the Bank of Latvia's methodology is quite an accurate measure of changes in the Latvian financial system's stress levels. It signals periods of elevated stress as well as periods of an excessively vigorous and imbalanced development of the financial system. The Bank of Latvia has been using the FSI as one of the elements of Latvia's financial system stability monitoring framework since 2009.

Keywords: financial stability, financial stress, financial stress index, financial system stability monitoring
JEL codes: G01, G10, G20, E44, E58

Aleksejs Meļihovs, Igors Kasjanovs

Discussion paper

ABSTRACT
This paper, attempting to tackle separately real and structural convergence, is an in-depth study of the convergence processes in Latvia and Europe. Latvia's structural convergence towards both the EU and other neighbouring (Baltic) countries is estimated using the Krugman index. Real convergence processes in the EU, distinguishing between σ convergence and β convergence, are likewise studied. In addition, cluster analysis with grouping European countries by their structural features is conducted.


In this study, the current β convergence and σ convergence processes within the EU are identified, yet an in-depth study disclosed that it was mostly the EU12 countries that were the convergence process drivers, with convergence at the regional level well behind that at the national level. The convergence among the EU Member States primarily depended on the wealthier regions of countries becoming richer (characteristic of EU12 in particular), with the process proceeding at a faster pace in relatively poorer countries. This suggests that within a country the discrepancies between rich and poor regions intensify over time. That leads to a conclusion that the European regional policy aimed at decreasing regional income heterogeneity did not prove efficient in the reference period.


Structural convergence in Latvia was mainly observed in 2008 and 2009, i.e. the years of real divergence enhanced by the onset of the crisis. Structural convergence in the breakdown of gross value added was mainly driven by the fluctuations of the value added ratio of trade, tourism and transport, manufacturing and construction sector.
The conducted cluster analysis demonstrates that over time European countries have become more homogenous or mutually similar in terms of economic structure. A particular focus on the specific economic characteristics of countries leads to a different conclusion: the countries in Europe agglomerated into several specific groups, thus clearly outlining the different drivers of growth in the post-crisis period.

Keywords: Latvia, the EU, structural convergence, real convergence, specialisation, cluster analysis
JEL codes: C20, C50, F15, E13, E60

Konstantins Benkovskis, Krista Kalnberzina, Ludmila Fadejeva

Discussion paper

ABSTRACT
The question of price stickiness remains one of the most important in macroeconomics, as price flexibility partly determines how long it takes for inflation and real economic variables to return to their potential levels after a shock. To get a better understanding of price change frequency and size, the empirical work on price stickiness based on microdata from surveys on prices of individual products from individual outlets is needed. The main goal of this study is to provide descriptive evidence on the degree of nominal rigidity of consumer prices in Latvia at aggregate and disaggregate levels. To achieve this goal, we use the micro database on consumer prices provided by the CSB. The main finding of the paper is that during 2003-2009 Latvia's consumer prices were flexible. The average duration of a price spell was 3.5 months, and every month on average 28.7% of consumer prices were changed.

Keywords: price setting behaviour, Latvia's consumer prices, frequency of price change, duration, size of price change, sales, time-dependent pricing, state-dependent pricing
JEL codes: D40, E31

Agnese Bicevska, Aleksejs Melihovs, Krista Kalnberzina

Discussion paper

ABSTRACT
A high saving rate is the foundation of a sustainable national social and economic policy. Nevertheless, boosting saving is not an end in itself. The process of making savings should be analysed taking into account several related aspects. This paper aims at conducting a detailed and comprehensive analysis of saving behaviour in Latvia and its estimation in the global context. Household saving behaviour and saving habits are in a particular focus and are examined econometrically using a unique source of Latvia's micro data, i.e. household budget surveys.

Keywords:savings, household saving habits, micro data, cross-section model.
JEL codes: C21, D12, D14, E21, O16