History Man

History Man

Latvian Prime Minister Valdis Dombrovskis has overseen a rapid restructuring of a stricken economy and geared it towards production and export-led growth. Colin Donald met the premier ahead of his nation’s momentous switch to the Euro

The Prime Minister of the Republic of Latvia is a plain dealer who shuns the PR hype surrounding most European leaders, but earlier this year his aides thought that a fanfare was in order.

In August, they issued a statement to celebrate the accession of Valdis Dombrovskis as the country’s longest-serving democratically elected prime minister, his 1,633 days in the job surpassing the premiership of Ivars Godmanis (1990-1993). The statement praised the “sound financial management and reforms which have re-structured the economy to develop production and exports”.

“Latvia has had the highest growth rate of the economy in the European Union for two consecutive years.” It continued. “An economy based on real estate deals and consumption [has been] replaced by a production and export-driven economy.”

But the crowning argument for Dombroskis as history-maker, the statement concluded, was his “attainment of the criteria set out in the Maastricht Treaty and accession to
the eurozone”.

The PM’s main legacy, it was suggested, will live on in the wallets and purses of Latvians from 1 January next year, when citizens start
to trade in the same coinage as fellow-Europeans from Estonia to the Algarve.

It is typical of Dombrovskis to headline an achievement that he believed was necessary rather than popular.

Because Euro accession is not popular. A sizeable majority of Latvians remain uneasy about abandoning their currency the Lats, the post-Soviet banknotes watermarked with Milda, the legendary maiden who personifies the nation’s hard-won independence.

Given the disasters that have threatened the European currency, this was a courageous choice. Finessing all the complexities to make it happen is among the most extraordinary feats of leadership of Latvia’s battle-hardened 44-year-old premier.

With Latvia on the verge of the big switch, BQ met Valdis Dombrovskis in his pine-lined study in the state chancellery in Riga, to discuss what he calls the “why and the how” of his coalition government’s momentous decision to throw in its lot with the Euro.

“For business I would say [Euro accession] is mainly a winning situation, also for consumers. We are a small and open economy, we do about 70% of our foreign trade in Euros, it means that we are spending lots of money in currency conversion, and all those currency conversion costs [estimated at an annual €70m] will disappear.”

“Also joining the eurozone will bring lower interest rates, in fact some accrediting agencies have indicated that they will be improving our credit rating, as they see joining the Eurozone as a positive factor.”

PM CopyDombrovskis is also warning Latvian businesses not to exploit the complexities of the switch at the expense of the consumer. The switch will involve a two week period of “parallel pricing” in which both currencies are acceptable (with change given in Euros), followed by a three month period in which Lats can be exchanged for Euros at post offices and banks. In a folksy reassurance, he says that if in the future “renovation or relocation” they discover a forgotten horde of Lats, these can be exchanged at the Bank of Latvia “with no time limit”.

Popular opposition is strongest among older, especially Russian-speaking parts of the population, where people have lost out in previous currency switches. They are less inclined to value the benefits of a European currency – and suspicious of the political-business elites who extol them. Latvian nationalists are also wary.

“We have already signed – and now it’s open for businesses to join – an agreement on the fair introduction of the Euro where businesses commit to changing prices according to the existing exchange rate and will also not make any manipulations with the rates.

“I would say business is quite positive about this initiative. We are doing it together with the Employers Federation and the Chamber of Commerce and already a number of important businesses have signed, for example the Food Traders Association, which contains the main supermarket chains and two oil products traders organisations which cover almost all filling stations and so on and so on.”

The real “risks” for business in the switch, he says, deftly lining up his government on the side of ordinary Latvians, is a reputational risk for businesses themselves, should they be caught trying to pick the peoples’ pockets.

“As agreed by Ecofin [the EU financial directorate] - the exchange rate according to which rate Latvia will join the Eurozone - 0.702804 Lats is one euro” he says. Characteristically he recites the decimal points from memory.

“Of course in a market economy, the state does not regulate prices, so [adapting the agreed exchange rate] is voluntary, but we will be more or less naming and shaming companies who do not comply, and also during this transition period both the Consumer Protection Centre, and Competition Council will also work intensively to check that there is no manipulation.“ But far more significant in Latvia’s debate over the Euro than the prospect of being done out of a few centimes on a bag of tomatoes or a tank of petrol, is the prospect of Latvians being required to participate in the possible future bail-out of one of the Eurozone’s stricken giants. Dombrovskis has priced in this scenario.

“The real risk in joining the Euro is for the state. It’s not so much a risk, it’s more an expense, the sense that we will have to contribute to the European Stability Mechanism, and that’s certainly an expense to the state which we have calculated. When we were communicating this reasoning of joining the Euro we also showed this expense, but showed it being offset by all the positive factors through more investment in Latvia, reduced currency costs, and lower interest rates. Those positives far outweigh the cost of our contribution to the ESM.”

After all that has occurred to undermine the credibility of the European currency, Valdis Dombrovskis is arguably the only living politician capable of selling a policy of Euro entry as a safe, sensible option.

Presenting himself as a solid technocrat, who has risen above the squabbling and short-termism of Latvian politics to lead a right-of-centre coalition of Unity, Reform and National Alliance parties, Dombrovskis’ political longevity stems from his formidable horse-trading skills, and phlegmatic, somewhat dour, practicality which made him the right man at the right time in Latvian history.

A trained physicist as well as an economist, his dogged ability to analyse and prioritise problems, plough through obstacles and blank out criticism have been recognised. He has his critics, but none have convinced Latvians that they could have handled economic disaster more competently: “If you have as deep an economic crisis as we had in 2008-2009 there is no easy way out,” Dombrovskis tells me. “So if anyone wants to criticise something, there will always be something to criticise, that is quite clear.”

This of course was no ordinary crisis. Latvia suffered the worst financial crash in Europe in the 2008-9 crisis, with 18% of GDP being wiped out, necessitating a 7.5bn international loan. After brutal austerity, which accelerated the country’s perennial net emigration crisis (now slowed but by no means stopped), Latvia is now, at 4.1%, the fastest growing country on the continent.

It is a remarkable turnaround, all the sweeter to the PM for having been accomplished in defiance of the international commentariat, led by the influential US professor Paul Krugman, who insisted that Latvia must devalue its currency rather than conduct an internal devaluation. The professor has not taken kindly to the Baltic resurgence that has occurred in defiance of his Keynsian  theorising. Dombrovskis, whose evenness of tone and temper can verge on the monotonous, comes closest to displaying real animation when talking about Prof Krugman, who notoriously described Latvia as “the new Argentina” destined for bankruptcy. The Latvia v Krugman prize fight looks set to continue for a few more rounds.

“It’s quite clear that Paul Krugman was wrong about Latvia’s economy” Dombrovskis says.
“He was wrong since he first start to commentate in 2008 and has not been able to accept that he was wrong. Instead he keeps looking for what is wrong with Latvia!”
“If you look at his economic analysis, it’s either flawed or unfair. He takes Latvia’s pre-crisis trend and says that because economic development did not continue in the pre-crisis trend, Latvia’s economy should be so much bigger than it actually is.

“But the big question is if Latvia’s economic trends were sustainable during the pre-crisis levels [Latvia grew by 12% in 2006]. The amount of credit in the economy between 2005-2008 increased four times and the current account deficit rose to more than 20% of GDP, there was a huge real estate bubble, a construction boom, with double digit inflation and despite double-digit growth an unbalanced budget and so on. It takes a big effort to describe this as sustainable development. It was clear this was a bubble and that it was a bubble that burst.

“So if someone looks at the peak of this and then says that ‘if you continued like this you would be much higher than we are now’, it’s just the wrong way of thinking about economic development.

“Krugman seems to be trying to deny that Latvia’s economy was overheated before the crisis and that’s something again so obvious that I would find very few economists who would argue it. The IMF for example said it was overheated by 10% of our potential output.
So if you have 10% of GDP fall, you are just at the potential before the bubble. But now we have had more than 20% fall, and we have had more than 10% increase, and now we see our economy at more or less its potential and starting to grow slowly above that.”

To some critics, such re-fighting of controversial crisis-era decisions helps make the case for a fresh chapter to be opened for a new phase in Latvia’s recovery. They consider the PM a political artist and compromiser more adept at preserving the coalition who would prefer to delay than instigate the growth policies necessary for growth. To these reluctant critics, the Dombrovskis regime is past its sell-by date. Latvian politics are notoriously unpredictable, with new parties tending to spring up shortly before elections, so it may be that others will appear next year to build on his Euro accession legacy. As things stand, the lack of convincing alternatives, and perhaps vestigial gratitude for his calm in the eye of the storm, give Dombrovskis a decent chance of being re-elected in October 2014.

“Dombrovskis is not a charismatic leader, and he knows it” one of his cabinet colleagues tells BQ. “But Latvia has had charismatic politicians in the past who have turned out to be scandalous in one way or another. He has focused on seeing through Euro accession
first, then on getting through each month of political upheaval.”

Naturally the PM doesn’t agree with the charge that he is running out of steam pointing to the Government’s National Development Plan, a 30-page, seven-year routemap to “economic breakthrough”, built around the triple themes of developing and retaining human capital, transforming the economy, and developing Latvia’s regions.

Typical of Dombrovskis, critics say, when asked for a national vision, to point to a turgid bureaucratic paper designed to draw down EU cash. Yes, say his supporters, but it was the “visions” of the leaders who screwed up the country in the last decade that led Latvia to near-ruin. Better a prime minister who fixes problems rather than one who inspires visions.
Even if Dombroskis may not be the best front man of the drive to make the Latvian economy more competitive, although he is prepared to try new initiatives, such as the convening of a ‘Latvian Davos’ in Riga earlier this year, in which expatriate leaders offered solutions to the country’s intractable problems.

Meanwhile he is set on reducing labour taxation, tidying up the delay-prone legal framework that deters overseas investment, matching skills and the education system with the labour market, and tackling the “huge demographic problem” of a nation that has seen a steady exodus of young, educated Latvians during its lifetime, a trend which accelerated sharply in the recent crisis.

“Quite clearly all indications are that we are heading towards a serious labour shortage, and its going to affect aspects of our economic development. It is also clear that not all our people will return, and we have to find a way to work with those people to use their potential for the benefit of Latvia. The idea of the ‘Latvian Davos’ – you can take that title with a pinch of salt – was to bring business leaders from across the world to seek synergies themselves and mix with Latvian business to see what they can do, also how they can help Latvian economic development. We want this to be a regular event, it’s an excellent initiative and should be followed up.”

“We need to work in both directions. One thing is the immigration plan which I see still as a supplementary instrument linked with general economic development and job creation.
“We are trying to create specific incentives for people to return, which they will if there are decent jobs waiting for them. One of the ideas is that we should advertise job opportunities
in Latvian throughout the diaspora, and see if they are interested in taking up those jobs.”

On the subject of job prospects, I ask Dombrovskis if he intends to emulate the
British prime minister, Margaret Thatcher, who famously declared that she would “go on and on” when the electorate started to go cool on her.

Predictably, the PM replies, that his future is “in the hands of the voters”, and that he “doesn’t exclude the possibility of running again, and if the people decide [to re-elect me] I will continue”.

But he then makes a revealing comment. “There has been some speculation about some EU position and that remains to be seen”.

As it is unusual for a serving politician even to hint at an interest in another job, this may be the clearest sign to date that ambitions lie beyond Latvia, perhaps in Brussels, where he served as an MEP from 2004-2009.

Despite the immediate modest qualification that he “doesn’t think it’s a very high probability”, raising the question unprompted is a politician’s way of throwing his hat in
the ring.

BQ takes this as a confirmation of sorts, though it is not clear as to whether the role he sees himself is a commissioner, or even as a compromise candidate to succeed EU President Jose Manuel Barroso.

Why not? Being from a small member country can be an advantage in Brussels power-politics. In Dombrovskis’ case, his record in office and his international reputation place him in the frame.

This impression of a young prime minister pitching for a second career is not dispelled by his orthodox pro-Brussels hard line on the ‘impracticality’ of repatriation of powers and other checks on the increased power of EU institutions. As a government press release tacitly pointed out, Dombrovskis is a great survivor.

After all the shocks and disappointments that accompanied the great crash of 2008, anyone who values political courage, competence and determination to mend a broken system will be happy to see Latvia’s history man on a wider stage, tackling a wider set of problems.

Youth no barrier for this Riga riser

Although extraordinary by international standards, the rapid rise of the still-youthful Mr Dombrovskis is slightly less unusual in Latvia. A country with two million inhabitants, a political landscape marked by ethnic divisions and, on the Latvian-speaking, rapidly-changing small parties, where younger, Western-educated politicians easily achieve rapid promotion.

Born in Riga to a family with Polish roots, Dombrovskis was one of the smartest of a generation of young technocrats, trained in physics and economics in Germany and the US. After rising to chief economist at the Bank of Latvia, he was tapped by his political mentor Einars Repse, founder of the centre right New Era party, to be finance minister at the astonishingly young age of 31, serving in that role for 16 months. In 2004, he moved to Brussels where he spent five years as an MEP.

Absence from the scene during Latvia’s ill-fated “Baltic tiger” bubble period was to prove a boon when in March 2009 he was persuaded to give up the relatively cushy (and better paid) job to be drafted in to lead the coalition in its darkest peacetime hour. Few at the time expected him to achieve the dominance he ultimately has.

Nicknamed “teddy bear” by a lady MP in a possibly ironic comment on his somewhat stiff public persona, he has nevertheless proved an effective communicator, remaining ‘on message’ while bulldozing his way through any opposition to his plans. Intensely private – his wife rarely appears in public – he has a reputation for scrupulous honesty and frugality in a country where oligarchic influence has made the public cynical about politics and politicians.

The prime minister’s skill set allowed him to pilot Latvia through the crisis, executing the hugely painful IMF-dictated prescription for national recovery with brutal clarity and focus. He even found time to co-author a book about the experience - How Latvia Came Through the Financial Crisis - alongside Swedish economist Anders Aslund.