Other taxes.  These taxes include a property tax, land tax, and a natural resource tax.  The property tax is placed on fixed assets of state enterprises and unfinished buildings.  A tax of 0.5% is place on property with a value of Lats1,500 or more.  A maximum rate of 4% is applied to property exceeding a value of lats2.5million.  The tax is paid entirely to the local government.  The land tax is placed on the use of land by individuals and enterprises.  The tax is paid directly to the respective district, village, city, or municipal district budget.  Exemptions include transportation routes and individual farms up to the first five years whose conditions are unsatisfactory.  The natural resources tax was introduced to discourage excessive use of natural resources and accrues in the Environment Protection Fund.  The tax consists of three parts:  a tax on the use of natural resources, a tax on pollution, and punitive fines for excessive use of natural resources and pollution.  Tax rates are determined by the Environmental Protection Committee. 

      Non-tax revenues.  These revenues include fees which are collected on documents and official services performed by the state, and user charges for various public services including water and sewage. 

Composition of Budgetary Expenditures...

      Subsidies and transfers which once accounted for 60% of the government expenditures have decreased significantly with reform efforts.  Subsidies on food (with meat and dairy products receiving the largest share) which once accounted for 90% of the total subsidies, have been dramatically reduced since 1991(World Bank, 1995).  Other subsidy expenditures which have been reduced include price support for:  agricultural producers, agro-industry subsidies, direct transfer to low-profit farms, housing maintenance, and heating. 

      Social security expenditures have increased dramatically to almost one-third of total expenditures by 1991, with over two-thirds of the fund expenditures being pension benefits.  Expenditures related to defense and administration have been transferred to the general budget. 

Debt... 

      Like other Baltic states, Latvia is currently liable for a portion of the debt inherited from the former Soviet Union.  However, Latvia "disclaims responsibility for the Soviet debt based on the grounds that its annexation to the Soviet Union was illegal under international law" (EIU, 1995).  The total external debt has been estimated at $60.6 million.  Of this debt, $26 million was long-term publicly guaranteed debt and $34.6 was an IMF credit (EIU, 1995). 

      Latvia has also recently tapped into the international bond markets.  The government borrowed $40 million through a two-year bond issue, organized by Nomura Securities, on the Japanese and international markets.  The international bond market was an alternative to the Latvian treasury bill market where demand has declined as a result of the bank failure.  The bonds are rumored to pay a low coupon rate of 5.4%, due to low yen interest rates.  Demand for domestic Treasury bills has recently begun to increase, although most interest is centered on the short-term bills.  Interest is beginning to increase slightly in longer-term bills. 

      EIU forecasts that Latvian foreign debt will rise to $500 million by the end of 1996 and $690 million by the end of 1997.  Debt-service costs will most likely continue to remain low as much of the credit is available on concessionary terms.  Recent loan agreements include a 17-year $14 million credit from the World Bank for rehabilitating the heating system, credits to assist in privatization, and transport infrastructure (EIU, 1995).

Recent budgetary conditions...     

      Efforts  to improve budgeting, budget execution, and accountability in government finances continue in Latvia.  Budgetary law entitled "Law on Budget and Financial Management" was passed by Parliament in April of 1994.  This law sets rules regarding formulating, approving, financing, implementing, and auditing the annual budgets of central and local governments.  According to this law, the Cabinet of Ministers must submit annual central government budget proposals to Parliament by October 1 for approval of the year preceding the new budget.  If the annual budget has not been approved prior to the implementation date, the government must operate with the preceding year's budget allocations until the new budget is approved.  "The law also regulates government borrowing and lending, the granting of guarantees, and the budgetary powers and procedures for local governments." (IMF, 1995).

      The budget law also creates a Treasury Department within the Ministry of Finance which is responsible for the execution, reporting, and accounting of the state budget.  (A Treasury area was created by the Ministry of Finance in 1993 which was mainly responsible for the auction of short-term (28 day) treasury bills.)  The Treasury Department, since creation, has eventually expanded to include other functions such as the responsibility of assets and liabilities and the social security system.

      Efforts were also made to increase efficiency in the collection of taxes.  The State Finance Inspection Board, responsible for the collection of domestic taxes, and the Customs Department, responsible for foreign trade taxes, were combined in accordance with law passed by Parliament in 1993.  The new department, the State Revenue Service, began work in mid-1994.

Budget and fiscal developments...  

      Latvia has had a pattern of tight fiscal management, and despite the pressures on revenue and expenditure arising from the transitional economy, government finances (as a percent of GDP) have remained relatively stable.  "Government has taken steps to improve the administration of taxes on goods and services in an effort to allow for additional expenditure on both investment and wages and pensions within budget organizations.".(EIU, 1995).  Tax measures include an increase in VAT rates and the introduction of excise taxes on gasoline and cars.  Improvements have been made in the collection of taxes at the border and enforcement of tax evasion penal codes.  Efforts are also being made to computerize the collection of the VAT and excise tax. 

      Government surpluses have fluctuated around approximately 1% of GDP.  Local and central governments have remained generally balanced or have shown a slight surplus.  The Ministry of Finance repaid it's debt to the Bank of Latvia in early 1993 through foreign financing.  "Due to budget proposals, government bond issuance, and tax measures, the general government financial deficit has continually been reduced to within approximately 1.5% of GDP.".(World Bank, 1995).  Revenues from tax collection have in general continued to increase while expenditures, despite increases, have been kept below budget levels. 

      "Within the past several years, attempts have been made to adjust specific tax structures to offset the increasing expenditures by unifying the profit tax to within a range of 25-35% and switching the graduated income tax schedule over to a flat income tax rate of 25%.".(World Bank, 1995).  Minimum wages have also increased 100% since 1994.   

Intergovernmental Relations

      The general government is composed of a central government, local government, and extrabudgetary funds including the Social Security Fund, the Environment Protection Fund, the State Privatization Fund, and the Foreign Exchange Budget.  Local government revenue is obtained through large transfers of funding from central governments and personal income tax collection within their jurisdiction.  VAT and profit taxes go directly to the central government, while approximately 50% of personal income tax goes directly to local government. The remaining 50% is held and administered through the Local Budget Equalization Fund (LBEF), "developed to adjust for disparities between different regions and cities by making available additional resources"(EIU, 1995).  Funding transfers from LBEF to local government for services are determined by formula.  LBEF funding for local government services includes: investment, education, health care, social benefits, and grants. Local governments are responsible for maintaining these services.  Local government expenditures for social benefits constitutes over half of total government spending in this area.  LBEF infrastructure allocations are determined separately, cities and rural areas receive funding based on population. (IMF, 1995). 

      Currently, local governments are largely responsible for municipal services such as water, sewage, and solid waste collection and disposal.  Local governments currently do not have the resources necessary to make investments such as the rehabilitation of existing sewage facilities.  "The need for external financing to support public infrastructure services and municipalities has become a priority with both the Government's Public Investment Program and the Bank's Country Assistance Strategy.".(EIU, 1995). 

Monetary Developments   

      Monetary policy has centered around the objectives of maintaining price stability and stabilizing the exchange rate.  "The Bank of Latvia has continued to use the purchase and sale of foreign exchange to maintain a stable exchange rate.".(EIU, 1995).  In the absence of developed financial markets (specifically interbank money markets), the Bank of Latvia has had little effect on refinancing policies.  In an effort to improve  management of band funds, the Bank of Latvia introduced minimum reserve requirement for all banks.  Treasury bill auctions were also introduced to finance the budget.  However, participants of the auction are still limited to only a few large banks and interest focuses on purchases of short-term bill. 

      In 1993, the lats were introduced to replace the interim currency, the ruble (which was valued at par with the Russian ruble).  The conversion of Latvian rubles to lats proceeded very smoothly, and was completed in 1994.  Rubles currently account for a very small portion of total currency issued.  Posting of prices in foreign currencies was made illegal in Latvia, although the use of foreign currency is still allowed. 

      Latvia's move toward a convertible currency came in two stages.  In May 1992, in response to a shortage of Russian ruble banknotes, the Latvian ruble was introduced as a parallel currency to the Soviet one in circulation.  The two traded equally until Latvia became flooded with Soviet rubles.  Latvia replaced the ruble with the rublis as the legal tender.  In 1993, the rublis was strong enough to move on to the second stage, the introduction of the national currency , the lats.  The rublis was gradually phased out and ceased to be legal tender on October 18, 1993.  In June of 1994 the exchange rate was Lats0.57:$1. 

      Latvia did not use a 'currency board system', and lats have been allowed to float freely.  As a result, the independent central bank has had a very important role.  It strengthened the rublis prior to the introduction of the lats through market intervention, the placement of Russian rubles in a stabilization fund, and high interest rates. 

Social Safety Net

      "Latvia currently operates a pay-as-you-go system of public pensions and unemployment benefits, along with other allowances for general social assistance including allowances for families with children.".(World Bank, 1995).  All social safety net benefits included in the central government budget are financed through the payroll tax.  Employers pay a general rate of 37% and employees pay 1%.  The social tax for agriculture is divided between enterprises and the worker at 18.5% and .5% respectively. (IMF, 1995). 

      Due to the aging population of Latvia and the expansive coverage of the system, pensions are the largest component of the social security expenditures.  After consultation with a collection of advisers from the World Bank and the Swedish government, Latvia passed legislation reforming its existing pension system and created a new, funded mandatory savings program.  In 1993, the pension system was switched over from a flat-rate average for nonworking pensioners ($25 per month regardless of work history or disability status) to a system of tiered benefits based on work history.  A permanent pension law is currently under implementation.  This law will separate social funds from the central government budget, and will introduce a multitier pension system which will separate publicly funded pensions from privately funded pensions based on need.  The law will also increase the retirement age (IMF, 1995).

      In addition to pensions, the social security system pays family allowances and unemployment benefits.  Allowances are granted to families based on the number of children and the age of the parents.  Unemployment benefit expenditures have remained at low levels.  Enterprises continue to pay two-thirds of unemployment benefits directly.  Total payments for allowances and benefits amount to approximately 2.5% of GDP.  Efforts have been made to increase public works programs which relocate and train workers.  Efforts have also been made to set the social benefits to a more realistic minimum subsistence level.  "Local municipalities have also been given clearer guidance in prioritizing social assistance programs.".(EIU, 1995).

      The main developmental issue facing Latvia is the acceleration of the pace of structural reform while maintaining a stable economy.  "One of the key elements of the government's policy agendas is to support the develop the country's human resources to meet the needs of a market economy, and at the same time protect the most vulnerable residents during the transition.".(World Bank, 1995).    

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