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Latvia: A Transit Economy

Riga, Latvia; 13 November 1996 (RFE/RL) -- Change has come swiftly to Latvia, blowing in from the Baltic like the scudding clouds that dot these northern skies.

Riga, where nearly half the country's 2.5 million people live, has felt the full force of transformation, as have coastal ports like Ventspils and Liepaja. But economic reform in Latvia, like the wind-borne clouds, is tied to the sea. The farther east you go, and the farther inland, the rarer the winds and the slower the change.

Not that Latvia makes its wealth directly from the Baltic. It is neither a fishing nor a maritime power. But Latvia, as business people say here, is a "transit power." The country's ports, as they did in Soviet times, continue to function as a pipeline to the West for Russia. Thousands of tons of Russian oil, metals and lumber headed westwards pass through Latvian ports every day. While domestic industrial production falters and agricultural yields stagnate, profits from the transit trade keep the government running, the workers paid and Riga's trendy new cafes crowded.

Former Finance Minister Uldis Osis, who continues to serve as an adviser to the government while running his own private consulting firm, considers Riga "an exception in Latvia's overall development picture."

Speaking from his renovated office overlooking the old town, Osis says that as you travel east from the Latvian capital, "economic activity decreases kilometer by kilometer."

The figures bear him out. While unemployment in Riga and the port city of Ventspils hovers around three percent, in Daugavpils near the Lithuanian and Belarus borders, it is up in the double digits. While Riga's streets -- lined with designer boutiques and elegant restaurants -- exude prosperity, the streets in Kraslava, on the Belarus border, "haven't changed since Soviet days," according to one Western diplomat.

Osis says the reasons are harsh, but simple. When Latvia regained independence in 1991 after 50 years of Soviet domination, collective farms were broken up and private land ownership reestablished. These small farms often could not and still cannot afford modern harvesting equipment, so crop yields have dropped. Latvian farmers now produce little surplus, leaving them with scant disposable income to channel into the local economy.

On the industrial side, the fall of communism has meant the closure or downsizing of numerous factories, which employed thousands of people producing goods for the internal Soviet market. While some enterprises continue to survive around Riga, where industry has historically been concentrated, smaller subsidiaries in eastern Latvia have gone bankrupt. Laid-off workers and managers have found new employment in Riga's growing service sector, but unemployed workers in more rural areas have simply joined the benefit queues.

Adding to Riga's prosperity and accentuating Latvia's regional division are the embassies, foreign trade missions and Western businesses that have set up representation in the Baltic capital. Foreign diplomats and consultants pour further millions into the local economy, but many are here because of the "transit business" and Riga's strategic location in relation to Russia.

Apart from a couple of high-profile projects, such as the new Kellogg's cereal production plant north of Riga, direct foreign investment in Latvia's domestic industrial sector has been disappointingly low. The United Nations Development Program issued a report this year blaming "discriminatory treatment of foreign investors" and "restrictions on land ownership." The report also criticized the obligation by foreign businesses to retain a quota of local employees, general government corruption and an overall unfriendly business climate.

Uldis Osis says small and mid-sized foreign investors are especially at the mercy of corrupt government agencies whose officers demand countless payments for the receipt of an endless series of permissions and licenses.

The European Union's (EU) ambassador to Latvia, Gunther Weiss, cites Latvia's small size and its relative lack of cooperation with its Baltic neighbors as further factors deterring investors. "When you have to spend two hours at the border every time you want to cross into Lithuania or Estonia" says Weiss, "it just isn't worth sending your goods there at all."

Uldis Osis is more optimistic. He notes the Baltic free-trade accord, recently signed between Latvia, Estonia and Lithuania, which should soon eliminate border formalities between the three countries.

Trade between the Baltic states is picking up, though it remains low, since each country must re-create intra-Baltic links severed during the Soviet era, when all relations were oriented towards Moscow. Road and rail links are also in desperate need of repair and upgrading.

"For now," says Osis," the transit trade remains very lucrative. It pays and has attracted all the best human resources. Naturally, other sectors such as domestic manufacturing and agriculture have been left a little bereft."

But Osis says there is a growing feeling that Latvia has reached a "capacity ceiling" in its trade with Russia. For political reasons too, many in Latvia want the country to become less dependent on the transit trade.

"If Russia's oil output were to fall or foreign investment in Russia were to dry up, our container terminals would be idled and our economy could collapse," adds Osis.

Osis sees the solution in the increased development of domestic logging, light industry and trade with all of Latvia's Baltic neighbors. Low wages, Latvia's skilled labor force, industrial tradition and central location, he predicts, will eventually attract more Scandinavian enterprises to the country, as has happened with German manufacturing in the rest of Eastern Europe.

Some hoped after Latvia regained its independence that it would become a new Baltic "Hong Kong." Like Hong Kong, Latvia has remained economically tied to its giant neighbor, to profitable advantage. But observers agree that if Latvia wants to remain politically independent as well as gain economic prosperity, it will have to move beyond skimming profits from the East-West transit trade and develop its trade and economic relations in all directions.