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. Last Updated: 07/27/2016

Latvia Regulates to Get IMF Blessing

RIGA, Latvia -- The IMF and Latvia announced Wednesday an agreement on an economic policy program, with promises of deficit reduction that analysts said would boost the beleaguered lat currency but might stymie growth.

Latvia's Finance Minister Edmunds Krastinsh said IMF approval of the country's policies should convince markets the government had the strength to defend a currency that has been sagging amid budget deficit worries.

The deal allows Latvia to tap World Bank structural adjustment loans at favorable rates.

Analysts agreed the deal should boost investor confidence, but they said the proof would come when the government launched a planned 75 million euro ($77.5 million) bond issue in October.

"The main objective of this program is to lay the foundation for sustained economic growth," IMF representative Adalbert Knobl said at a news conference, adding that the IMF sees GDP growth near 1 percent this year and around 4 percent next year.

"This is to be achieved through two main instruments. The first is to provide for macroeconomic stability through fiscal and monetary restraint that is also supporting the fixed exchange rate of the lat," he said. Structural reform was the second focus.

Knobl said the government had agreed to reduce the fiscal deficit from slightly under 4 percent of GDP this year to under 2 percent next year, press ahead with privatization and boost minority shareholder rights.

Improving the regulatory environment, particularly in the energy sector, and banking supervision were also key structural issues to be worked on under the agreement, Knobl added.

Krastinsh said the IMF program and stamp of approval gave the government more flexibility in its borrowing plans, and deficit reduction would boost the lat.

"What can really put minds at ease is the cutting of budget deficit for 2000 to 2 percent," Krastinsh said.

"The agreement with IMF... will allow us to use the World Bank's structural adjustment loan, pushing any possible borrowing [beyond the October issue] o f international markets further down the line. This would happen - if at all necessary - no sooner than before next summer," he said.

Analysts said the deficit reduction would strengthen the defense of the lat, which the Bank of Latvia has had to support through sustained foreign exchange market intervention recently.

"I think it's important that they have an agreement on the fiscal deficit with an international institution like the IMF," Erste Bank analyst Petra Frewein said.

The lat was weak Wednesday, with dealers saying there were signs of intervention by the central bank after it had been off the market for a week. They said the IMF news would not effect trade drastically in one day.

Furthermore, Frewein said the fiscal tightening would not speed recovery for an economy that contracted by 2.3 percent in the first quarter, and the key test of investor confidence would be the October euro bond issue.

"I think it will show us if there is a change in the mind of investors. ... Recently the intervention levels of the central bank have decreased. Perhaps we are moving in a direction where investors are trying to believe in the lat again," Frewein said.