Robert Grundke
Enes Sunel
OECD Economic Surveys: Latvia 2026
Abstract
The economy has started to recover from the consequences of the energy crisis following the war in Ukraine. Declining inflation, rising confidence and wages, and increasing public investment due to the inflow of EU funds have supported domestic demand. However, structural challenges remain. To finance high defence spending, improvements in healthcare and reductions in old-age poverty while containing the fiscal deficit, it is key to raise spending efficiency, reallocate spending and raise tax revenue, including by broadening the tax base and strengthening tax enforcement. Raising spending efficiency will require further improving spending reviews as well as performance- and multi-annual budgeting. As labour taxes are high, the tax burden should be shifted towards other income, property, and environmental taxes. Decreasing tax rates for lower incomes combined with continuing to strengthen tax enforcement and the fight against corruption would help lower informality. Improving access to finance and supporting business dynamism by reducing the administrative burden and strengthening competition would raise productivity growth.
After stagnating in 2023 and 2024, the economy has started to recover from the consequences of the energy crisis following the war in Ukraine. Inflation had come down due to declining energy prices, before picking up in March due to a surge in oil and gas prices related to the conflict in the Middle East. Nominal wages increased strongly, bolstering the purchasing power of households and private consumption (Figure 1.1). Confidence has increased, which together with monetary easing in the euro area has led to rising lending and private investment in machinery and equipment as well as commercial and residential construction. Declining risk premia supported foreign-direct investment and portfolio inflows (Figure 1.2). Public investment has strongly expanded due to significant inflow of EU funds and rising defence spending, while public consumption increased due to strongly increasing public wages. Exports, which had suffered from weak global demand and the disruption of trade linkages with Eastern neighbours due to sanctions, have started to recover. Thereby, the decline of exports to the United States due to higher tariffs has been compensated by rising exports to other EU countries, which are the main destination of Latvian exports (Figure 1.3). Exports of ICT and business services continued to increase, supporting the diversification of the economy. Imports rose strongly due to increasing defence spending and purchases of military equipment.
Source: Central Statistical Bureau of Latvia; OECD calculations based on Eurostat database.
Following a fiscal contraction in 2023 and 2024 due to the phase out of energy support measures for firms and households, the fiscal stance has been strongly expansionary in 2025 contributing to the economic recovery. This was mainly driven by rising defence spending, which increased from 3.3% of GDP in 2024 to 3.7% of GDP in 2025 and is expected to reach 4.7% of GDP in 2026 according to budget plans and measured using the NATO concept. Although most military equipment is purchased abroad, the increase in employment and public wages of military and internal security personnel as well as investments in military facilities and infrastructure have contributed to rising domestic demand. As capital expenditure makes up about 60% of defence spending in Latvia, which is the highest share in the EU, rising defence spending also has the potential to raise productivity and long-term growth, for example through the construction of dual use infrastructure (Croitorov et al., 2025[1]). The Bank of Latvia has estimated the multiplier effect of rising defence spending to be about 0.5. This also includes confidence effects, as the strong rise in defence spending has helped reduce risk premia and supported private investment (Figure 1.2). However, so far, the share of defence spending allocated to public expenditure on research and development (R&D), including related to digital technologies, remains limited, despite its large potential for crowding in private R&D and supporting innovation and productivity growth (Antolin-Diaz and Surico, 2025[2]; Moretti, Steinwender and Van Reenen, 2025[3]). In 2023, total R&D expenditure stood at 0.8% of GDP in Latvia, while Estonia spent about 1.8% of GDP and the average OECD country 2.7%. Increasing the share of defence spending to R&D related activities could foster long-term growth.
Long-term government bond yields, differential against Germany, % pts
Source: OECD Economic Outlook database.
Energy security has improved but there is room to accelerate the green transition to further raise energy security, lower energy prices and encourage the development of new business models in green technologies. The ending of fossil fuel imports from Russia in 2023, which was enabled by the quick expansion of the existing regional LNG infrastructure, as well as the disconnection from the Russian electricity grid and connection to the European grid in 2025 have significantly raised energy security. However, Latvia remains heavily dependent on fossil fuel and natural gas imports, exposing it to global energy price increases and supply disruptions, as underscored by the recent surge in fuel prices due to the conflict in the Middle East (IEA, 2024[4]). Energy prices for industrial consumers remain higher than before the war, weighing on the competitiveness of firms (Figure 1.1). Accelerating the expansion of wind and solar energy supply and the modernisation of the electricity grid would help raise energy security, lower energy prices and improve the terms of trade (see Chapter 2). Efforts to accelerate the green transition should also comprise phasing out subsidies and tax expenditures for fossil fuels and investing more public resources in research and development (R&D) of green technologies, including in cooperation with other EU countries. This would help lower abatement costs and support economic growth (Stern, 2022[5]).
1. Includes mechanical appliances; electrical equipment; transport vehicles; optical instruments and apparatus (inc. medical); clocks and watches; musical instruments.
2. Includes products of the chemical and allied industries; plastics and articles thereof; rubber and articles thereof; and base metals and articles of base metals.
Source: Central Statistical Bureau of Latvia; IMF, IMTS database; OECD-WTO Balanced Trade in Services (BaTIS).
A declining working age population is exacerbating labour shortages that contribute to inflationary pressures and weigh on the competitiveness of firms. The labour market remains tight, with low unemployment and a high number of unfilled job vacancies (Figure 1.4), particularly in the metropolitan area of Riga, while unemployment rates remain higher in more remote regions (as discussed in the previous OECD Economic Survey of Latvia). Average nominal wages have increased strongly over the last years, which was partly related to increasing public sector wages (see Chapter 4) and the rising minimum wage (see below), but also due to skilled labour shortages in the private sector (Figure 1.1). Owing to large scale emigration, the working age population has declined by more than 1% per year since 1990 and is projected to further decline by 6% between 2024 and 2030, although net emigration has declined in recent years. Rising wages have led to a strong increase in unit labour costs, weighing on the competitiveness of domestic firms (Figure 1.5). Nevertheless, absolute labour cost levels are still significantly below the EU average according to Eurostat data. To mitigate the projected decline in the working age population and address skilled labour shortages, the government should further facilitate skilled labour immigration (see the previous OECD Economic Survey of Latvia), raise the quality of education and training and improve health outcomes to allow older workers to work longer (see Chapters 2 and 3).
Source: Eurostat; United Nations, Department of Economic and Social Affairs, Population Division (2024).
Note: Export performance is measured as actual growth in exports relative to the growth of the country's export market. CEECs is calculated as an unweighted average of Czechia, Hungary, Poland, Slovak Republic and Slovenia.
Source: OECD Productivity database; OECD Economic Outlook database.
1.1.1. Rising domestic demand will lead the recovery
Real GDP growth is expected to fall from 2.1% in 2025 to 1.9% in 2026 before rising to 2.2% in 2027 (Table 1.1). Rising wages and improving consumer confidence will support the recovery of private consumption, while higher energy prices due to the conflict in the Middle East will mitigate the rise in real wages. Public consumption will grow due to rising spending on defence, education, health and social protection. Business investment will continue to improve due to strong public investment growth and broadly neutral monetary policy in the euro area. Despite high trade barriers and policy uncertainty in the U.S., exports will gradually recover due to stronger growth of the EU economy related to the fiscal expansion in Germany, as the EU is by far the largest export market for Latvia (Figure 1.3). The fiscal stance will remain broadly neutral in 2026 and contract by 0.5% of GDP in 2027 due to the phase-out of EU Recovery and Resilience Facility grants (see below). Headline inflation will remain high in 2026 due to higher energy prices. Core inflation will remain persistent in 2026 due to strong wage growth, before declining in 2027 due to a more restrictive fiscal stance and slowing public wage growth.
Annual percentage change, volume (2020 prices)
1. Contribution to changes in real GDP.
2. Percentage of potential GDP.
3. Harmonised index of consumer prices excluding food, energy, alcohol and tobacco.
Source: OECD Economic Outlook 119 database.
The main risks for the outlook relate to the geopolitical situation and are tilted to the downside. Further disruptions in global energy markets due to an escalation or longer-than-expected conflict in the Middle East would lead to higher energy prices, raising inflation and reducing private consumption and investment, and reduce export demand. An escalation of the war in Ukraine, more aggressive behaviour of Russia towards its western neighbours or reduced international support for Ukraine could significantly affect risk premiums and the attractiveness of Latvia for foreign investors. Further sanctions against Russia and Belarus could impact exports and supply chains, as trade with Commonwealth of Independent States (CIS) countries remains relatively important, while exports to Russia accounted for 5% of total exports in 2025 (Figure 1.3). Domestic downside risks to the outlook relate to delays in the absorption of EU funds due to intensifying labour shortages, rising input costs and weak capacity in infrastructure planning. Strong wage increases due to intensifying skilled labour shortages and rising public sector wages could keep core inflation higher for longer, requiring a stronger fiscal adjustment weighing on growth. On the upside, a stronger-than-expected impact of fiscal expansion in Germany on euro area growth would raise export demand.
1.1.2. Structural reforms are key to support economic growth and reduce inequality
A comprehensive set of structural reforms is needed to accelerate convergence towards average income levels in the OECD, which has slowed down during the last decade (Figure 1.6). Weak investment and innovation as well as a shrinking working age population have weighed on potential growth. Further strengthening competition in the banking sector and deepening capital markets would help improve access to finance for firms (see below). Improving the capacity of the public administration, reducing the high administrative burden and making regulation more competition-friendly, as discussed in Chapter 4, is key to revive business dynamism, investment and innovation. This should be combined with increasing public expenditure for R&D as well as measures to lower informality, which is a barrier to the reallocation of resources to more productive and innovative firms (see below). To raise labour supply, it is key to improve health outcomes (see Chapter 3), link the retirement age to life expectancy and improve labour supply incentives in the tax and transfer system. Raising spending for active labour market policies and improving the quality of education and training would help address skilled labour shortages and support workers during the green transition (see Chapter 2). Implementing a comprehensive set of structural reforms would raise potential growth of GDP per capita by about 1.1 percentage points per year until 2036 (Table 1.3).
Despite strongly rising wages in recent years, income inequality remains high, and poverty rates have increased since 2013 (Figure 1.7). Wealth inequality is among the highest across the OECD, according to the OECD Wealth Distribution database. High inequality is not reduced much by the tax and transfer system, as the low progressivity of the tax system has been further reduced by a recent income tax reform (see below) and social benefits are low. Poverty is particularly widespread among older people (see below) and the unemployed, and it is more concentrated in eastern regions. Social transfers, such as the guaranteed minimum income, family and housing benefits, reduce inequality and poverty to some extent, but should be increased and better targeted to be more effective. Latvia spent only 2.5% of GDP on social benefits in 2023, which is far below the EU average of 4.4% of GDP and 0.8 percentage points less than Lithuania or Estonia. As municipalities can set income thresholds to define low-income households between 50% and 80% of the median income, target groups for some social benefits, for example local family benefits, differ across municipalities. Harmonising eligibility as well as the design of local social benefits across municipalities, while taking into account differing living costs, and improving means-testing could help use scarce resources more effectively to reduce poverty. Better coordination of social transfers would also help reduce high withdrawal rates that reduce incentives for declaring additional income (see below). Consecutive increases in the minimum wage in recent years, which stood at EUR 740 per month or 50% of the median wage in 2025, have also helped raise incomes at the lower end of the income distribution and reduced income inequality. However, to raise wage levels in the medium term without jeopardising the competitiveness of the economy, it is key to accelerate structural reforms to foster business dynamism, innovation and productivity growth (Table 1.3, see the previous OECD Economic Survey of Latvia).
Gap in GDP per capita (in constant 2020 PPPs) against the OECD average, %
Source: OECD National Accounts database.
Average yearly additional growth in GDP per capita during the next 10 years (in percentage points)
Note: The potential effects of structural reforms are quantified using the methodology of Guillemette and Turner (2021[6]). The set of structural reforms comprises: reducing the administrative burden and strengthening competition by improving the Product Market Regulation indicator to the average of the other Baltic countries as well as improving public governance measured as the rule of law to the average of the other Baltic countries; increasing public investment in R&D to the OECD average; a reduction in labour tax wedges by half of the distance to the OECD average; raising spending for active labour market policies to the OECD average; improving educational quality to raise average PISA scores to the level of Estonia; improving incentives in the tax and transfer system to raise employment rates of women to the average of the other Baltic countries; improving health outcomes to allow for longer working lives to raise employment rates of older workers (50-74 years of age) on average by 4.6 and 3.8 percentage points for men and women, respectively; coupling the legal retirement age to life expectancy, whereby the retirement age is increased by 2/3 years for every additional year of life expectancy.
Source: OECD Long-term Model.
Improving incentives in the social transfer system to raise employment of mothers would help decrease high gender inequality and address labour shortages. The gender wage gap is among the highest across the OECD (Figure 1.8), which is mainly related to the motherhood penalty (Latvian Statistics Institute, 2023[7]). Women between 25 and 44 years of age have significantly lower labour market participation rates than men due to childcaring activities, which disrupts their employment and the accumulation of job-specific human capital, and reduces the wages they earn later in their careers. Childcare supply was insufficient in the past but waiting times to access childcare have significantly decreased recently in many municipalities due to lower birth rates and improved capacity, while costs remain very low in international comparison. Nevertheless, mothers continue to receive 44 weeks of paid parental leave on average, which is among the highest across OECD countries in 2025 according to the OECD Family database. This reinforces gender roles in care activities and reduces women’s labour market participation. A 2023 reform mandates that 2 months of the available paid parental leave duration must be taken by the second parent or will be deducted from the total duration, which increased average parental leave taken by fathers to 7 weeks in 2025. Further increasing the minimum duration of parental leave for the second parent, while limiting the overlap of leave periods and the total length of parental leave, could help incentivise fathers to engage more in child caring activities and allow mothers to return to the labour market. This could also help further lower the opportunity costs of childbearing for women, particularly among higher-educated women, and help raise birth rates (Raute, 2019[8]). In addition, phasing out social benefits such as family or housing benefits more gradually with income would help lower high labour market participation tax rates for second earners, which are mostly women (see below). In a first step, this would require harmonising target groups and the design of local family benefits across municipalities (see above).
Source: OECD Income Distribution database.
Gender wage gap, % of men's wage, 2024 or latest available year
Note: Figures report the difference between men’s and women’s median gross earnings as a share of men’s median gross earnings for full-time dependent employees; OECD refers to the simple average of 38 Member countries.
Source: OECD Employment and Labour Market Statistics database.
1.2.1. Financial market risks remain contained
Vulnerabilities in financial markets remain contained. The banking system is well capitalised and highly profitable, with rising deposits and low non‑performing loans (EBA, 2025[9]). Corporate bankruptcies were mostly confined to construction and trade in 2024, reflecting tighter euro area monetary policy and elevated global trade uncertainty (Figure 1.9, Panel A) (OECD, 2025[10]). Low corporate debt and limited direct exposure to rising U.S. tariffs reduce corporate vulnerabilities, though high interest burdens warrant monitoring in transport and real estate (Figure 1.9, Panel B) (Bank of Latvia, 2025[11]). Non‑performing loans remain low, especially for mortgages, as widespread variable‑rate lending has enabled borrowers to benefit from monetary easing since mid‑2024 (Figure 1.9, Panel C). Reduced interest rates, lower inflation and strong wage growth have further strengthened debt repayment capacity of households. Risks in commercial real estate remain low given modest loan‑to‑value ratios, though prices for older, less energy‑efficient buildings could decline due to weaker demand and longer vacancy periods. Bank profitability stayed strong despite the introduction in 2025 of a new levy on excess net interest income of banks that can be avoided if lending growth passes a specific threshold. The levy, which applies until 2027, could hamper banking sector profitability and should be monitored.
Although the housing market has overall remained resilient, rising mortgage rates due to a tightening of financing conditions in the euro area could trigger sharp house‑price corrections, increasing vulnerabilities for lower‑income, highly indebted households and constraining collateralised credit for non‑financial corporations. Despite the fast increase in house prices (Figure 1.10), housing market affordability has increased, supported by strong wage growth, easing financing conditions in the euro area and recent reforms to reduce costs for refinancing loans and strengthen competition in financial markets (Swedbank, 2025[12]; OECD, 2025[10]). However, mortgage rates remain relatively high despite past monetary easing in the euro area, and slowing wage growth in 2026-27 might worsen housing affordability (Figure 1.10). Higher mortgage rates could further diminish the net returns from investing in energy‑efficiency improvements in older dwellings (Bank of Latvia, 2025[13]). On the upside, low total household indebtedness and the fact that a large share of the outstanding housing loans is held by higher-income households limit the mortgage credit risk for the banking system (Bank of Latvia, 2025[11]). The evolution of the household loan-to-value ratio, which is already higher than in the other Baltic countries, should be monitored, as a sharp correction in house prices from high levels could further increase the balance sheet vulnerability of the highly indebted households (IMF, 2025[14]). A significant drop in house prices could also restrict credit to non‑financial corporations, since over 80% of loans require high levels of collateral and the most common collateral requested from SMEs is real estate (see the previous OECD Economic Survey of Latvia).
The macroprudential stance should be maintained. The central bank has transitioned to a positive neutral counter-cyclical capital buffer approach and increased the counter-cyclical capital buffer rate to 0.5% in December 2024 and 1% in June 2025 (Bank of Latvia, 2025[11]). The authorities should stand ready to increase the counter-cyclical capital buffers further if house price-related risks continue to build up. However, as the system-wide average Common Equity Tier 1 ratio is close to 23% – third highest in the euro area – changes of the overall macroprudential stance should be carefully reviewed to avoid stifling growth of bank lending (EBA, 2025[9]). Applying lower debt service- and debt-to-income ratios to loans for financing the purchase of energy-efficient dwellings is welcome. The ex-post evaluation of this policy would be facilitated by improving the data coverage of the credit register (see below).
Source: OECD Timely Indicators of Entrepreneurship database; Central Statistical Bureau of Latvia; ECB; IMF Financial Soundness Indicators database.
Recent stress tests indicate that the financial system is resilient to adverse shocks. The stress tests showed that large credit institutions directly supervised by the ECB would withstand a severe stress scenario, with none breaching regulatory capital requirements (Bank of Latvia, 2025[11]). The Bank of Latvia continues to apply a growth‑at‑risk approach to evaluate the impact of tail events – such as a sharp fall in GDP growth – on financial system resilience. Extending this variable‑at‑risk methodology to other macro‑financial variables, including house prices and government borrowing costs, would help capture risks arising from housing market pressures and increasing fiscal pressures (see below). The stress‑testing framework has also been enhanced to incorporate loss provisioning under both baseline and stress scenarios, including potential losses on lending to firms with high exposure of exports to the United States. As the vulnerability of Latvian banks to global trade policy uncertainty mainly stems from exposures to domestic borrowers trading within the euro area, stress scenarios should account for these cross-border linkages (Ong and Jobst, 2020[15]).
Source: OECD Analytical House Price database; Central Statistical Bureau of Latvia; ECB.
1.2.2. Improving access to finance for firms
Despite being healthy and profitable, banks remain hesitant to lend to firms. Bank deposits from firms and households have increased since the 2010s, bank profitability is strong, and the share of loans that are non-performing is low (Figure 1.11, Panel A). Nevertheless, only a small proportion of bank deposits are converted into loans, in contrast with other OECD countries, where higher banking sector profitability has been associated with higher credit-to-GDP ratios (Figure 1.11, Panel B) (Richter and Zimmermann, 2018[16]). Recent monetary easing in the euro area combined with the high prevalence of variable‑rate mortgages and reforms to reduce mortgage refinancing costs have helped compress intermediation margins for mortgage loans. This led to a rise in refinancing activity in 2025, particularly among smaller domestic banks, and increased lending, while foreign‑owned banks maintained a conservative lending stance (Bank of Latvia, 2025[11]). However, the high intermediation margins on corporate loans have remained broadly stable. Total fees for refinancing a corporate loan could amount to between 2.5% and 3% of the loan value, limiting access to lower-cost bank credit to finance their investments (Bank of Latvia, 2025[13]). Stringent bank collateral requirements also continue to constrain access to bank credit. In 2024, the average business loan in Latvia required collateral worth 162% of the loan value – almost six times the euro area average. These practices weigh on the access of SMEs to credit, with collateral ratios exceeding twice the loan value for 30% of the issued loans to medium‑sized firms and 60% of the issued loans to small firms. For small enterprises, personal liability for pledged collateral is also frequent, further raising the potential personal costs for entrepreneurs in the event of loan default.
Source: Bank of Latvia; Risk Assessment Indicators at the ECB Data Portal; and OECD calculations.
Enhancing competition in the banking sector is key to lower excessive intermediation margins and expand the availability of credit. Strong concentration and pricing power in the banking sector weaken the transmission of euro area monetary policy to domestic financing conditions and contribute to high intermediation margins (see the previous OECD Economic Survey of Latvia). Four banks hold over 80% of total assets, and around half of customers rely on a single credit institution, resulting in relatively high market concentration in the banking sector (Competition Council, 2019[17]). Together with the high prevalence of flexible‑rate loans, this allowed banks to pass through monetary tightening after the energy crisis almost fully and rapidly to lending rates, while adjusting deposit rates only slowly and partially (Bank of Latvia, 2025[11]). Regulatory interventions to directly reduce lending rates, such as levies funding mortgage interest rebates or taxes on net interest income of banks tied to loan growth, should be avoided, as they disproportionately benefit higher‑income households and could be passed on to customers through higher fees and future lending rates (Bank of Latvia, 2023[18]). Instead, reducing refinancing and bank‑switching costs for businesses, strengthening competition enforcement, and requiring banks to provide standardised contract templates and switching packages would improve competition and help lower borrowing costs for firms. Recent regulation abolishing early-repayment and refinancing fees and limiting the maximum fee for issuing a new mortgage loan at 1% of the loan amount has significantly increased customer mobility and reduced lending rates (Bank of Latvia, 2025[13]). Introducing a cap for early-repayment fees for business loans, as for example done in Türkiye, while providing a refinancing grace period, could strengthen bank competition and improve firms’ access to credit. Such a reform could be informed by a market investigation study by the Competition Council.
Improving access to finance for firms will also require concerted efforts to deepen capital markets, including by strengthening both the demand and supply side of capital markets. Banks in Latvia account for roughly two‑thirds of total external financing, while corporate equity and bond markets remain shallow, leaving firms with limited access to non‑bank financing (Figure 1.12) (IMF, 2025[14]). However, the availability of non-bank financing is particularly important for young and innovative firms, as exemplified by the positive experiences made in Sweden (OECD, 2026[19]). Stock market listing is relatively costly for many companies due to the administrative burden related to reporting requirements and legal document preparation (see the previous OECD Economic Survey of Latvia). Only eight stocks are currently traded on the Latvian stock exchange, and turnover is far lower than in Lithuania and Estonia (Nasdaq, 2026[20]). Given the very low trading volumes, the delisting of a single company in 2024 erased more than half of total market capitalisation, leaving Latvia with the lowest stock market capitalisation relative to GDP in the euro area (Figure 1.12) (Ministry of Finance, 2025[21]). Moreover, despite the strong increase in corporate bond issuance in 2024, which placed Latvia ahead of its Baltic peers, the depth of the corporate bond market also remains relatively low (Figure 1.12). This is related to the high costs for bond issuance and the difficulty of finding institutional investors on the demand side of the corporate bond market, as second-pillar pension funds can only invest in listed bonds (Bank of Latvia, 2025[13]; OECD, 2024[22]). Deepening capital markets will require attracting more institutional investors and facilitating listing and bond issuance for companies.
The listing of large SOEs would help attract institutional investors and further strengthen the governance and efficiency of SOEs (see Chapter 4). Latvia has not listed any of its large SOEs in the stock market, in contrast to the other Baltic countries, where SOEs account for about one third of stock market capitalisation. Without offering minority stakes in state‑ or municipally‑owned companies, the objective of reaching stock market capitalisation of 9% of GDP by 2027 is unlikely to be achieved (Ministry of Finance, 2025[21]). The planned IPO of airBaltic, the national airline, has been postponed due to weak performance and senior management turnover. In June 2025, amendments enabling the listing of public capital companies on the stock exchange were adopted, and line ministries are evaluating which firms could be prepared for listing. Timely implementation of these plans and considering the listing of additional SOEs would help support net portfolio inflows and attract domestic institutional and retail investors. SOEs that do not meet the size criteria for a prime market listing could be consolidated or listed in the lower segments (OECD, 2021[23]). Implementing plans to introduce a public IPO fund would also help support the stock market and provide more viable exit strategies for venture capital funds supporting Latvian start-ups (see the previous OECD Economic Survey of Latvia).
Facilitating corporate bond issuance holds great potential to improve access to finance. Given the low leverage and healthy profitability of formal‑sector firms, those able to issue bonds would likely secure lower interest rates than on bank loans. Corporate bond financing also offers longer maturities and less restrictive collateral requirements compared to bank loans, two aspects that limit SMEs’ access to bank finance in Latvia (see the previous OECD Economic Survey of Latvia). Administrative costs for bond issuance are high at around 2% of the issue value, more than double the euro area average (Bank of Latvia, 2025[13]). Although EU funding programmes help reduce this burden, such support is limited and temporary. The Bank of Latvia and the State Revenue Service could support bond market development by providing low‑cost creditworthiness information for SMEs, drawing on access to detailed firm-level data (see the previous OECD Economic Survey of Latvia). For example, the German Bundesbank provides free credit assessments based on firms’ annual financial statements, and has established a cooperation with other central banks to provide this service to 11 other EU countries (Deutsche Bundesbank, 2022[24]). These efforts should be accompanied by increasing the financial literacy of potential corporate bond issuers, an approach also pursued by the Banque de France.
Source: ECB Data Portal; OECD Economic Outlook database; and OECD calculations.
Attracting Latvian institutional investors, such as funded pension funds, to the domestic capital markets is key for improving companies’ access to non-bank finance. The assets of mandatory and voluntary funded pension schemes amount to more than 70% of outstanding loans to the private sector, making them a potentially significant source of demand for newly issued equity and debt (Bank of Latvia, 2025[13]). However, only less than 8% of them are invested domestically (Ministry of Finance, 2025[21]). Moreover, average nominal returns of pension funds, including assets within the mandatory defined contribution scheme, were 2.8% over the past 10 years, compared with 5% in the average OECD country, contributing to low pension replacement rates (see below). However, nominal returns have significantly increased in recent years, reaching 12.6% in 2024 (OECD, 2025[25]). This was due to reforms that abolished limits for equity investments, set maximum limits for management fees and introduced greater transparency on fee structures and investment performance, strengthening competition between pension funds. Investment portfolios are now more diversified across asset classes, including real estate, private equity and corporate bonds, whereas in the 2010s investment portfolios were concentrated in government bonds and bank deposits. Nevertheless, continuing to relax investment limits could further raise pension fund returns, provided that the supply of investable assets further expands, for example through listing of large SOEs. For example, the limit to invest in private investment funds is 25%, and second pillar pension funds cannot invest directly in real estate and face low concentration limits on equity holdings (OECD, 2024[22]). Investment limits in single issuer instruments are also low in all asset categories. Allowing second-pillar pension funds to invest also in viable real estate instruments, facilitating greater exposure to private investment funds and raising low investment limits in other instruments would help to close the investor gap in the corporate bond market. As private assets tend to be complex and risky investments, the pursuit of increased investment in private assets should be accompanied by appropriate risk management and governance processes (OECD, 2022[26]).
1.3.1. Addressing rising spending pressures is key to ensure debt sustainability
The fiscal deficit is widening due to rising defence and social spending (Table 1.4). After a contractionary fiscal stance in 2023 and 2024 due to the phase-out of energy support measures for firms and households, the fiscal stance measured as the underlying primary balance eased significantly by 1.6% of GDP in 2025 (Table 1.1). To address national security concerns related to the war in Ukraine, spending for defence and internal security increased from 3.3% of GDP in 2024 to 3.7% of GDP in 2025 and is expected to reach 4.7% in 2026, as measured using the NATO concept. In addition, spending for education, health and social policy will increase by 0.4% of GDP in 2026, in line with recommendations of the previous OECD Economic Surveys of Latvia. The fiscal cost of the temporary reduction in the diesel excise duty in 2026, introduced in response to the recent rise in energy prices, will be largely offset by higher value-added tax revenues. The fiscal stance is projected to remain broadly neutral in 2026 and tighten by 0.5% of GDP in 2027 due to the end of the EU Recovery and Resilience Facility grants, which are treated as one‑off revenues in the OECD methodology. However, at the same time, the deficit of the structural primary balance will increase by 1% of GDP in 2027, leading to a fiscal deficit of 4.3% of GDP.
Reducing the high fiscal deficit is key for keeping public debt on a sustainable path. Since 2019, government debt has increased by 9 percentage points of GDP to 46.9% of GDP in 2025, and it is expected to further increase to about 50.3% of GDP in 2027 (Table 1.4). The strong rise in the structural deficit from 0.9% of GDP in 2024 to 2.5% of GDP in 2026 is compatible with EU and national fiscal rules, as additional debt-financed defence spending of up to 1.5% of GDP is allowed under the EU escape clause and because part of defence spending is defined as a one-off and excluded from national fiscal rules (see below). However, starting from 2028, the structural fiscal deficit will need to gradually decrease to 1% of GDP by 2032 and maintained at that level thereafter to comply with EU and national fiscal rules, which would stabilise public debt at about 56% of GDP (Figure 1.13). This implies the need to finance higher defence spending through a fiscal adjustment of 2% of GDP, including measures to reduce spending and raise revenue, turning a structural primary deficit of 1.2% of GDP in 2026 into a surplus of 0.8% of GDP by 2032. As population ageing will lead to additional spending pressures in the public health and long-term care systems of 0.3% of GDP by 2032 according to the OECD Long-term Model, the total necessary fiscal adjustment amounts to 2.3% of GDP by 2032 (Table 1.5). Under current policies, population ageing will not automatically lead to higher spending in the public pension system, as benefit replacement rates automatically decline to ensure the fiscal stability of the pension system. However, as old-age poverty is already among the highest across the OECD, additional measures will be needed to reduce old-age poverty and stabilise average pension replacement rates (see below and Table 1.5). As total adjustment needs are large, the tightening of fiscal policy should start before the end of the EU escape clause in 2028, by containing non-defence expenditures and raising revenue.
To put public debt on a declining path, compliance with national and EU fiscal rules should be complemented with implementing a comprehensive set of structural reforms, as recommended in this Survey, which would raise GDP per capita growth by 1.1 percentage points per year over the next 10 years (Table 1.3). This would allow rebuilding fiscal buffers for future emergency situations and creating fiscal space to raise investments necessary to accelerate the green transition and improve energy security (see Chapter 2). Contingent fiscal risks exist and are related to further cost increases of the Rail Baltica project (see Chapter 4) and the financial situation of some SOEs. Making public investments, fiscal support for private investments and other programmes more independent from EU funding cycles to ensure policy continuity will also likely require further fiscal resources (see Chapter 4). Additional fiscal resources will also be required, as the temporary shift of one percentage point of gross wages from the mandatory asset-backed second-pillar to the public first-pillar pension system in 2025-2028 (see below) is planned to be reversed from 2029.
General government, % of GDP
1. Defence; public order and safety; housing and community amenities; recreation, culture and religion; environment protection.
2. Projections from the OECD Economic Outlook 119 database.
3. The net primary balance subtracts interest earned from the primary balance.
Source: OECD National Accounts database; OECD Economic Outlook 119 database.
The sustainability of public debt is sensitive to interest rate movements and the trajectory of future growth. In a scenario where rising risk premia due to an escalation of the war in Ukraine, a more aggressive behaviour of Russia towards its western neighbours or reduced international support for Ukraine causes interest rates to increase by 150 basis points, a fiscal consolidation to reach a structural deficit of 1% of GDP in 2032 would not be enough to stabilise public debt (Figure 1.13, Panel B). Thus, to insure against the risks of rising interest rates, it might be necessary to further adjust the structural deficit by 0.5 percentage points in 2033, which would require a total fiscal adjustment of the primary structural balance of 2.8% of GDP by 2033 (Table 1.5). Lower GDP growth rates due to higher trade barriers or disruptions in global energy markets would also result in higher public debt-to-GDP ratios.
Government gross debt, Maastricht definition, as a percentage of GDP
Note: The “Complying with national fiscal rules (after a four-year escape clause)” scenario uses the GDP growth and interest rate path projected in the baseline scenario of the OECD Long-term Model. Based on the 2026 draft budgetary plan of Latvia presented to the European Commission, this scenario assumes that during 2026-28 the general government structural budget deficit limit of 1.5% of GDP and the debt-financing of additional defence spending of 1.5% GDP allowed by the activation of the national escape clause from EU fiscal rules is fully used. The structural budget deficit reaches 3.7% of GDP in 2027 and is then gradually reduced to 1% of GDP in 2032 and remains constant thereafter. This requires that the structural primary balance, which stood at -1.2% of GDP in 2026, reaches a surplus of 0.8% of GDP in 2032 and approaches 1.2% of GDP over the projection horizon. The scenario “Current policies” uses the GDP growth and interest rate path projected in the baseline scenario of the OECD Long-term Model and assumes that there is no adjustment to the primary balance, which stands at -1.8% of GDP in 2026, while additional spending for health and long-term care due to population ageing is gradually added over the projection horizon. This leads to a deterioration in the structural primary balance of 0.3 percentage points of GDP by 2032 and 0.9 percentage points of GDP by 2045 according to the OECD Long-term Model. This scenario assumes that a large part of the high defence spending as well as additional spending for health and long-term care due to population ageing will be debt-financed. The “Complying with national fiscal rules and structural reforms” scenario builds on the “Complying with national fiscal rules” scenario and adds the impact of a comprehensive set of structural reforms on GDP per capita growth, while the positive second round effects of these structural reforms on revenues are not included in the simulations (Table 1.5, Table 1.1). In the “Higher government borrowing rates” scenario, interest rates increase by 150 basis points over the projection period relative to the baseline scenario of the OECD Long-term Model. In the “Lower GDP growth rates” scenario, nominal GDP growth is lowered by one percentage point over the projection period relative to the baseline scenario of the OECD Long-term Model. The ratio of general government financial assets to GDP is held constant at its 2025 level across all scenarios. However, financial asset revaluations are assumed to halve the stock‑flow impact on gross debt accumulation.
Source: OECD Economic Outlook 119 database; OECD Long-term Model; and OECD calculations.
1. The estimate for rising spending needs in healthcare assumes that public healthcare spending is increased by 1% of GDP until 2032 to reach the average of the other Baltic countries and remains at that level.
2. The estimate for rising spending needs to address old-age poverty assumes that the average benefit-replacement ratio in the public pension system remains constant, which increases spending by 0.3% of GDP by 2032, and by 1.4% of GDP by 2045.
3. The effects of reforms related to prioritising spending and raising spending efficiency at all levels of government are difficult to quantify using available methodologies but would significantly contribute to increasing fiscal space. The existing spending review process has led to savings of about 0.4% and 0.3% of GDP in 2023 and 2024, respectively. A recent review of 33 public bodies under the 2026 medium‑term budgetary framework identified potential spending cuts of 1.5% of 2025 GDP over 2026-29.
4. The estimate for the fiscal impact of improved public procurement procedures is related to an OECD study which has estimated the gains in spending efficiency to be about 1 percentage point of GDP in OECD economies, if risk assessment and analysis of market capacity for infrastructure contracting decisions are improved across all levels of government by applying the OECD Support Tool for Effective Procurement Strategies (STEPS) (Makovšek and Bridge, 2021[27]; OECD, 2021[28]).
Source: OECD calculations.
1.3.2. There is some room to further raise tax revenue and make the tax system more efficient
To finance the higher defence spending, there is some room to further raise tax revenue. The tax-to-GDP ratio stood at 34.9% of GDP in 2024. While three percentage points below the EU average, and 0.3 percentage points below Estonia, this ratio is slightly above the OECD average of 34.1% of GDP. Moreover, compared to 2023, it has increased by 2.4% of GDP. The phase-out of exemptions from corporate income tax (CIT) for retained earnings of credit institutions from 2024 has increased CIT revenue by 0.5% of GDP (see below). Moreover, a reduction in informality and strongly rising average wages have raised revenue from personal income taxes (PIT) and social security contributions by 0.7% of GDP, respectively. As the tax structure remains heavily skewed towards labour and consumption taxes, reforms to further raise tax revenue should shift the tax burden towards corporate income, property and inheritance taxes (Figure 1.14). Raising revenue from recurrent taxes on immovable property would also strengthen the fiscal situation of municipalities and improve incentives for spending efficiency (see Chapter 4). In addition, raising excise tax rates on alcohol, tobacco and sweetened beverages, and phasing out subsidies and tax exemptions for fossil fuel would also help raise revenue and reach health and climate policy objectives (see Chapter 2 and 3).
General government tax revenue, % of total, 2024 or latest available year
Source: OECD Tax Revenue Statistics database.
High labour taxes for low-income earners and steep withdrawal rates for social benefits reduce incentives for formalising work and declaring additional wage income. Although the shadow economy has decreased since 2022, it still stood at 21.4% of GDP in 2024 (see below) (Sauka and Putnins, 2025[29]). High labour taxes are due to high and flat social security contributions of 34.09% of the gross wage, with 23.59% paid by the employer and 10.5% by the employee, and which apply from the first euro of labour income until a threshold of EUR 105 300 (Figure 1.15) (OECD, 2023[30]). The contribution to the public health system continues to be applied above the threshold, with 0.5% paid by the employer and 0.5% paid by the employee. In 2025, the PIT rate was increased from 20% to 25.5% for the first income bracket, further raising marginal tax rates for low-income earners, which are among the highest across the OECD (OECD, 2025[31]). Given the relatively low labour productivity and wages in Latvia, such high marginal tax rates represent a major obstacle to formalising work and declaring additional wage income. In addition, steep withdrawal rates for social benefits further reduce incentives to declare additional wage income (OECD, 2022[32]).
To raise incentives to formalise work, the tax burden on low-income earners should be reduced by lowering the personal income tax rate for the first income bracket. This could be financed by making personal income taxes more progressive at higher incomes and raising revenue from corporate and capital income, inheritance and property taxes. Currently, a flat PIT rate of 25.5% applies up to yearly taxable income of EUR 105 300, which is about five times the average yearly gross wage income in Latvia, while a tax rate of 33% applies to income above this threshold, and an additional tax of 3% is applied to income above EUR 200 000. Applying these higher tax rates at lower income thresholds would raise revenue to finance a decrease in tax rates for low-income earners and help reduce high income inequality (see above). There is also room to lower social security contributions by funding the minimum pension or other non-insurance related benefits, which are currently financed out of the social security fund, through general tax revenue, as done for example by a recent reform in Lithuania (see below) (OECD, 2022[32]). The recent replacement of the income-dependent tax allowance with a fixed allowance is welcome, as it improves incentives to declare additional wage income. In addition, phasing out social benefits, such as minimum income, family or housing benefits, more gradually with income would help raise incentives for declaring additional wage income. It would also improve incentives for labour supply of second earners, mostly women, who face the largest participation tax rate among OECD countries according to the OECD Tax Benefit Model.
Average tax wedge decomposition, % labour costs, 2025
Note: The tax wedge is the sum of personal income tax, employee plus employer social security contributions, minus social benefits as a percentage of labour costs. The tax wedge is shown for a single individual without children earning different income levels of the average wage (AW).
Source: OECD Taxing Wages database.
To finance decreases in labour taxes, there is scope to raise revenue from corporate income taxes (CIT), which remains low compared to other OECD countries, by broadening the tax base or raising tax rates (Figure 1.16). Since 2018, corporate profits are taxed at a rate of 20% only when they are distributed to shareholders, which can create strong incentives to keep profits within the company to avoid taxation. The purpose of this measure is to stimulate investment by incentivising higher firm equity, reducing incentives to under-declare profits and improving access to finance. However, a comprehensive evaluation of the effects of this reform on investment is missing and should be conducted using detailed micro data on firms. Experiences from a similar reform in Estonia show that effects on investments in productive assets are weak, as firms prefer to accumulate excess liquidity instead of investing in productive assets (Hazak, 2009[33]; Masso, Meriküll and Vahter, 2013[34]). Moreover, non-taxation of retained earnings can also incentivise the self-employed to set up corporations to consume out of the company and avoid high labour taxes. This could be addressed by requiring owners to pay themselves a sufficiently high wage including social security contributions, as for example done in Belgium. The recent increase in the tax rate on income from capital gains is welcome but should be expanded to dividends to further reduce the scope for tax avoidance through incorporation. Since 2024, the government has subjected profits of banks and other credit providers to direct taxation irrespective of profit distribution, which has increased CIT revenue by 0.5% of GDP. This step could be expanded to include all other economic sectors, as the non-taxation of retained earnings is costly and budget resources are scarce. The recent introduction of a temporary tax on excess profits of banks should be reviewed, as it introduces additional distortions across sectors. As the international agreement on the global minimum tax on corporate profits will require adjustments in Latvia’s CIT system, it should be taken as an opportunity to evaluate and redesign the system and raise CIT revenue.
As wealth inequality is high, the authorities should also consider introducing gift and inheritance taxes to raise revenue and reduce high inequality. Latvia already taxes the inheritance of real estate through estate and notary fees, but revenues from wealth transfer taxes as a share of total tax revenues are less than half of the OECD average (OECD, 2021[35]). Distortive effects of inheritance and gift taxes on savings and investment behaviour and work efforts of wealthy taxpayers are found to be much smaller compared to labour or capital income taxes, while the effects on labour supply of the heirs are significantly positive (OECD, 2021[35]) (Guvenen et al., 2023[36]). When combined with an exemption for low-value inheritances, recipient-based inheritance taxes can significantly lower wealth inequality and contribute to the equality of opportunities. Experience from other countries show that for inheritance and gift taxes to be effective, it is key to ensure a broad tax base, particularly avoiding too generous exemptions for business assets, and set lower tax rates for low amounts of inherited wealth (OECD, 2021[35]). To address concerns about forced liquidation of family-owned firms, instalments for tax payments could be introduced.
Taxes on income, profits and capital gains of corporations, % of GDP, 2024 or latest available year
Source: OECD Revenue Statistics.
1.3.3. Improving the fiscal framework and raising spending efficiency
Although national fiscal rules have helped keep government debt below 60% of GDP since the 1990s, there is room for reforming the treatment of one‑off expenditures to strengthen credibility of Latvia’s fiscal framework. Defence and internal security spending that were previously classified as one‑off items, excluding them from the national structural fiscal balance and fiscal rules, have only been gradually included in the structural fiscal balance from 2024 (Ministry of Finance, 2025[37]). Under this approach, the 2025 structural fiscal balance is estimated at -0.6% of GDP, whereas treating these outlays as permanent would imply a structural fiscal balance of -2.4% of GDP, which would be much higher than the structural deficit of 1% of GDP allowed under national fiscal rules (Ministry of Finance, 2025[38]). To strengthen credibility of the national fiscal framework, multi‑year expenditures such as defence and internal security – supporting capital formation and public employment – should be incorporated into the structural balance rather than treated as one‑offs. Although Latvia has not misused one‑off classifications, stronger legal safeguards are needed to prevent arbitrary designation of routine or durable expenditure as temporary, and ensure that the fiscal framework remains transparent, rules‑based and resilient to future pressures.
Latvia’s Fiscal Discipline Council effectively monitors compliance with the Fiscal Discipline Law and aligns with OECD Principles for Independent Fiscal Institutions but would benefit from reforms to strengthen its impact (Figure 1.17). The Council reviews fiscal balance and expenditure‑growth calculations, assesses GDP estimates and the structural fiscal balance, and endorses the Ministry of Finance’s macroeconomic forecasts. However, its analytical capacity remains weak, as the Council lacks a permanent staffing and operates with only 2.5 full‑time equivalent analysts – below the EU average of four. Its reports are often too technical and the Council does not systematically track its public engagement. Parliamentary hearings of the Council are also irregular. Granting authority and protected multi‑year funding to expand staffing of the Council toward EU norms, raising remuneration limits for its members and strengthening in‑house analytical tools with external technical assistance would further increase the analytical capacity of the Council. Requiring twice‑yearly appearances of the Council before key parliamentary committees would enhance oversight. Providing plain‑language summaries, consistent visuals and systematic media engagement monitoring would improve the communications impact of the Council.
OECD Fiscal Advocacy Index between 0 and 4 (higher value indicates greater capacity for fiscal advocacy), 2024
Note: The index assesses the extent to which independent fiscal institutions (IFIs) fulfil the role of championing fiscal sustainability.
Source: OECD (2025[39]), Government at a Glance 2025, OECD Publishing, Paris, https://doi.org/10.1787/0efd0bcd-en.
Annual spending reviews since 2016 have helped to control aggregate spending, align budgets with government priorities and improve programme effectiveness, but implementation still has scope to improve. A recent review of 33 public bodies under the 2026 medium‑term budgetary framework identified potential cuts of 1.5% of 2025 GDP over 2026-29. Reviews are overseen by a steering group of senior representatives from the Ministry of Finance, the Bank of Latvia, the State Chancellery and the State Audit Office, which sets terms of reference, reports findings to ministers and coordinates the review process. However, weak performance data, limited time for review design and implementation, and insufficient political prioritisation weigh on effective implementation (OECD, 2023[40]) Latvia could strengthen its approach by publishing high‑level objectives for each review and providing guidance materials alongside terms of reference. Publishing spending review objectives would strengthen accountability, support implementation and reinforce public integrity, as practiced in Germany and Slovakia. Formally sharing completed reviews with key stakeholders, including the Cabinet, line ministries and, where appropriate, Parliament, would boost visibility. Requiring Cabinet approval of review mandates, as practiced in the Netherlands, would further enhance political ownership. Establishing topic‑specific working groups with external experts, as used in other Baltic countries, would improve analysis and the quality of recommendations (OECD, 2022[41]). As it is not feasible to review all spending annually, Latvia should adopt a fixed timetable for periodic reviews and incorporate implementation road maps and risk analyses to ensure sustained follow‑up. Access to high-quality and reliable performance information is critical to support robust spending reviews and effective performance budgeting and would help strengthen the quality of analysis and the credibility of findings.
In Latvia’s budgetary framework, performance data informs funding, but is only weakly related to budget allocations, and accountability mechanisms for performance-informed budgeting could improve. To strengthen the link between funding and results, ministries of finance, transport and economics have been tasked with developing more detailed performance budgeting as part of the 2026 medium‑term budgetary framework (Ministry of Finance, 2025[42]). Incorporating performance information into the main body of the annual budget document would improve visibility and policy relevance, while requiring ministerial or senior official sign‑off – common in a third of OECD countries – would reinforce internal accountability (OECD, 2025[39]). Regular parliamentary reporting and committee hearings on performance budgeting starting in 2026 will help to enhance external accountability (OECD, 2023[43]). Oversight by the State Audit Office could be expanded to include assessing the robustness of the performance framework, verifying the accuracy of reported results and ensuring compliance with legal requirements. Complementary measures such as training, capacity‑building workshops and structured engagement with stakeholders would improve analytical capability within ministries (OECD, 2023[44]). Accelerating the introduction of a central IT system linking performance and financial data (see Chapter 4), along with identifying administrative champions and granting them greater operational flexibility, would encourage broader uptake of performance budgeting and help foster a results‑oriented culture across the public sector.
Better aligning annual budgets with expenditure ceilings of the national medium‑term budgetary framework would strengthen public financial management. The Fiscal Discipline Law and the EU Fiscal Framework establish a unified medium‑term ceiling for the general government net expenditure growth that guides fiscal planning and reinforces multi‑year fiscal discipline. The Ministry of Finance also sets and enforces top‑down expenditure ceilings for total spending within the central government, including social insurance funds, over the three‑year budget period, and programme‑level ceilings for the upcoming year. This is complemented by sub‑ceilings on personnel, current and capital spending. However, line ministries formulate their proposals for funding new policies often exceeding the approved top-down ceiling for total spending (OECD, 2025[45]). Moreover, the approved annual state basic and social security budgets have deviated from previously set multi‑annual ceilings in the past. Ensuring that expenditure ceilings set in the previous year are binding for the next budget cycle would enhance the effectiveness of multi‑annual planning. This should be combined with ensuring that line ministries and public institutions develop their budget proposals within a framework that respects the top-down ceiling. This would further strengthen the link between annual budget appropriations and previously established multi-annual expenditure ceilings and improve the credibility and effectiveness of top-down medium-term budgeting. Including all annually appropriated spending in the multi-annual baseline, as practiced in most OECD countries, would also improve top‑down budgeting. Moreover, implementing current plans to systematically cost tax expenditures alongside the multi‑annual baseline would help to clarify their fiscal impact and avoid the perception that they are costless (OECD, 2023[44]). Requiring revenue forecasters to commit formally to international professional standards, as in a third of OECD countries, would help protect the medium‑term framework from optimistic forecasting biases.
1.3.4. Reducing old-age poverty
Old‑age poverty is among the highest across the OECD, particularly among women (Figure 1.18). This is due to a low average pension replacement rate and a strong link between contributions and pension benefits, while the level of contributary minimum pensions and non-contributary basic pensions remains very low (OECD, 2018[46]; OECD, 2025[47]). Public spending for old-age pensions stood at 7.5% of GDP in 2021, which is significantly below the EU average of 10% of GDP. Besides the public first‑pillar pay-as-you-go notional defined contribution scheme, which is financed by social security contributions of 14% of gross wages, a second-pillar mandatory funded defined contribution scheme exists, which is financed by social security contributions of 6% of gross wages (in 2025-2028, one percentage point of gross wages is temporarily shifted from the second to the first pillar). While the average pension replacement rate in the public system is automatically declining to ensure fiscal stability in the context of a rising old‑age dependency ratio related to large labour emigration of young Latvians and increasing life expectancy, nominal returns on funded pension assets have significantly underperformed those in other OECD countries (see above). The particularly high poverty rate for older women is related to a high share of widows among older women, as life expectancy of men is about 10 years below that of women (see Chapter 3). Informality in the form of under-declaration of wages and the fact that self-employed persons only pay full contributions at the minimum wage also contribute to low average pension benefits (see below).
Note: The future replacement rate represents the level of pension benefits in retirement from mandatory schemes, including the public and the mandatory second-pillar funded system, relative to earnings when working, for workers with average earnings and a full career from age 22.
Source: OECD (2025), Pensions at a Glance 2025: OECD and G20 Indicators, OECD Publishing, Paris, https://doi.org/10.1787/e40274c1-en;; Eurostat database.
Reducing old-age poverty will require increasing the level of contributory minimum pensions and non-contributary old-age safety net benefits. The government has reformed contributory minimum pensions in 2020, but their level after a full career, defined as 43 years of contributions, remains at about 17% of the average wage in 2024, which is low relative to other OECD countries (OECD, 2025[25]). In addition, required contribution years to receive public pension benefits have been increased from 15 to 20 years, significantly reducing coverage. The level of non-contributory old-age safety net benefits stood at about 10% of the average wage in 2024, which is less than half of the OECD average. If no action is taken, old‑age poverty will further increase up to 2050 due to low future pension replacement rates (Figure 1.18). Under current rules, the average pension replacement rate in the public system is projected to decline to ensure fiscal stability of the public pension system in the context of a projected decrease of the working‑age population and rising life expectancy (Figure 1.4) (European Commission, 2024[48]). Recent reforms raising the pension indexation ceiling and increasing the non‑taxable minimum for pensioners from EUR 500 to EUR 1 000 are welcome. However, this should be complemented by increasing the level of contributary minimum pensions and non-contributory old-age safety net benefits, which should be financed through tax revenue instead of further increases in contribution rates, as for example done in Lithuania (OECD, 2022[32]). In addition, the threshold to receive public pension benefits should be lowered, as currently no benefits are paid below 20 years of contribution, an exception among OECD countries. This is particularly problematic as the share of people having worked less than 15 years has strongly risen in younger cohorts (OECD, 2018[46]).
Moreover, indexing public pensions more closely to wage growth, while automatically linking the retirement age to life expectancy, would help stabilising average pension replacement rates while ensuring public pension sustainability. Several countries have implemented such a link, including Denmark, Finland, Estonia, the Netherlands, Portugal and the Slovak Republic. As life expectancy remains very low, particularly for men (see chapter 3), the retirement age could be gradually and only partially linked to future increases in life expectancy. Implementing plans to gradually incorporate service pensions, which offer early retirement options and higher benefits for selected public sector employees, such as police officers or judges, back to the main public pension scheme would further support public pension sustainability. About 40% of service pension recipients are younger than 50 years of age and most of them combine work with claiming pensions (OECD, 2018[46]). Such a reform could be combined with raising base salaries to maintain these jobs attractive (see Chapter 4). For example, Poland has reformed service pensions for judges, raising the retirement age for new entrants into the profession to 65 years.
Strengthening mandatory funded defined contribution schemes and raising their returns would also help support pension adequacy. The combined assets of the second‑pillar mandatory funded scheme and third‑pillar voluntary funded scheme remain below one‑quarter of annual GDP (OECD, 2025[25]). At the same time, average returns of pension funds in Latvia have been significantly lower over the last 10 years than in the average OECD country, although they have improved in recent years (see above). The temporary shift of one percentage point of gross wages from the mandatory asset-backed second pillar to the first-pillar public pension system in 2025-28 will further constrain the growth of funded pension assets. Evaluating the impact of this measure on capital market development and considering an earlier phase‑out would help strengthen future pension adequacy while also expanding the role of Latvian institutional investors in domestic financial markets. This should be complemented by implementing this Survey’s recommendations to help improve real returns on second pillar pension funds (see above).
1.3.5. Fighting tax evasion, corruption and money laundering
Further improving tax enforcement is key for reducing informality and raising revenue
The shadow economy has decreased since 2022, related to improved tax enforcement and rising minimum wages, but it remains at 21.4% of GDP in 2024 (Sauka and Putnins, 2025[29]; Gavoille and Zasova, 2023[49]). The most common form of informality is underreporting of hours worked and wages, whereby workers are formally employed at the minimum wage and the unreported wage income is paid out in cash through the so-called envelope wages. In 2024, the share of unreported wages in total wages was estimated at about 21% on average, a decrease of 4 percentage points compared to 2022, with higher shares in construction, retail and other services sectors. Envelope wages reduce revenue from personal income tax and social security contributions but also from value added and corporate income taxes, as employers underreport part of their turnover. Around 11% of employees are estimated to be working without any contract and 15% of total business profits to be unreported. Underreporting of income is also a problem among the self-employed. The reasons for informality and tax evasion are manyfold and addressing them requires a cross-cutting strategy, but further strengthening enforcement should play a key role. Besides that, it is key to reduce high effective marginal tax rates for low-income earners (see above), improve the capacity of the public administration to raise trust in institutions and the quality of public services (see Chapter 4), and continue to fight corruption (see below).
To strengthen tax enforcement, it is key to make electronic payment of wages, the use of e-invoicing and filing of a personal income tax declaration mandatory and better enforce strict economy-wide limits for cash payments. So far, registered employees, for whom the employer withholds labour taxes and only pays out net wages, are not required to file a personal income tax declaration. This applies to about 800 000 employees, or about 80% of the workforce. Evidence from other countries shows that the obligation to file a personal income tax declaration can significantly improve tax morale and reduce underreporting of income, as income taxpayers become legally liable and expose themselves to audits and fines if they underreport income (Jacquemet et al., 2020[50]). Making the filing of a personal income tax declaration mandatory for all taxpayers should be a key priority. Continuing to improve the digitalisation of the tax administration, including the existing pre-filling of electronic tax declarations with information from previous years, can help to further reduce the administrative burden involved in filing a tax declaration. Some OECD countries have also introduced simplified procedures for taxpayers below a specific income threshold, for example the United States.
Although employers must report any cash wage payments to the tax authority since 2025, a labour law provision still allows for paying wages in cash. Broadening the electronic payment of wages should be combined with better enforcing economy-wide maximum thresholds for cash payments, while at the same time fostering financial inclusion in remote regions. Introducing withholding taxes on payments to sub-contractors would help to reduce tax evasion in sectors where sub-contracting is widespread, such as construction (World Bank, 2017[51]). The requirement to report sources of funds for construction projects, which was recently abolished, should be reinstated. Moreover, making the use of e-invoicing for consumption tax purposes mandatory and better enforcing the recently introduced obligation to use electronic cash registers would help fight underreporting of income and turnover by firms and further reduce tax evasion, as experience in Hungary and Poland shows. The annual turnover threshold below which self-employed workers and firms do not have to pay the VAT was raised to EUR 50 000 in 2024, which is relatively high compared to other OECD countries. This should be carefully evaluated to ensure efficient use of public resources.
These measures should be combined with further strengthening capacities for tax enforcement by improving human resource policies and the IT infrastructure. Recent cuts in staffing and the split up of investigative functions, which are now under the responsibility of the Ministry of Interior, should be carefully evaluated. The transfer of investigative functions to the Ministry of Interior could improve cooperation and data exchange with other law enforcement agencies and strengthen the fight against tax crimes. However, clearly separating functions, while maintaining close cooperation and data exchange to support tax audits, is crucial to avoid overlaps with the tax administration (see Chapter 4). Moreover, measures to strengthen tax enforcement should be combined with outreach activities to raise public acceptance, emphasising that reducing informality is key for addressing rising spending needs, including for defence and national security.
Continuing the fight against corruption and money laundering
Latvia has significantly stepped up the fight against corruption and money laundering (Figure 1.19). Resources for the anti-corruption agency (KNAB) have been increased and coordination with other law enforcement agencies improved. Public disclosure of the financial situation of public officials has been made mandatory and a two-year cooling-off period applies to higher officials leaving the public sector. The implementation of a comprehensive transparency registry of beneficial ownership has greatly facilitated financial intelligence related to money laundering and tax crimes as well as asset recovery. Moreover, amendments to the law on party financing created a transparent mechanism of resource allocation to parties and established strict limits for donations and their immediate public disclosure.
However, there is still a long way to go to bring back trust in institutions to the OECD average (Figure 1.19). A recent opinion survey of the KNAB found that better enforcing the existing heavy penalties against corruption and economic crimes, as recommended by previous OECD Economic Surveys of Latvia, would be the most effective way to combat corruption and raise trust in institutions (KNAB, 2022[52]). Lengthy court proceedings, particularly in complex cases against top public officials, and many verdicts not fully applying penalties foreseen by law cause dissatisfaction with the judiciary (OECD, 2022[53]). To address this issue, amendments to the criminal law have broadened the definition of corruption and lowered the burden of proof for conviction by expanding the definition of harmed interests related to the criminal offense. This should be combined with further improving judicial efficiency and quality of judicial procedures, which have improved by the introduction of the Economic Court, a specialised court for complex cases related to corruption, money laundering and economic crimes in 2021.
Latvia has strengthened Anti-Money Laundering/Counter-Terrorist Financing/Counter Proliferation Financing (AML/CFT/CPF) measures over the past decade, reducing non‑resident deposits and cross‑border flows from high‑risk jurisdictions (IMF, 2025[14]). Latvia also successfully completed the first ever MONEYVAL/FATF evaluation carried out under the new global framework for the assessment of national AML/CFT/CPF systems (Council of Europe, 2026[54]). However, heightened aversion to AML‑related reputational risks in the financial sector and perceptions that compliance costs outweigh the benefits of offering services may have raised non‑interest expenses of making loans and reduced access to credit (see the previous OECD Economic Survey of Latvia). Refusing to establish or continuing a banking relationship with an individual or a whole category of customers based on AML/CFT/CPF compliance or potential reputation damage without due consideration of the risk profile of individual customers might also lead to increasing use of other payment mechanisms, such as crypto-currencies, which are much harder to monitor. Regulation establishing automatic international exchange of tax relevant-information on crypto-assets, which can be used for money laundering according to the OECD Crypto-Asset Reporting Framework, should be implemented as planned. To continue improving the management of AML/CFT/CPF risks while preserving access to financial services, it is necessary to purposefully apply a risk-based approach and at the same time ensure that low-risk sectors are not overburdened (Ministry of Finance, 2026[55]). This includes better defining low-risk cases, requiring financial institutions to document due diligence outcomes in cases of refusal or termination, and continuing to provide improved training to financial sector employees.
Implementing the centralised and mandatory lobbying register as planned is key for raising transparency and integrity in lobbying (Figure 1.19). Until the implementation of the register in September 2028, the registration in a recently introduced and temporary list of interest representatives remains voluntary. Although the planned register will collect information on meetings and issues discussed, information on the detailed objectives and outcomes of lobbying activities are currently not planned to be included. Including all contacts with public bodies with details on the targeted officials, legislation or regulation and inputs, and complementing the register with a legislative and regulatory footprint would help raise transparency and reduce undue influence of special interest groups. At the municipal level, so far only contacts with elected official are included in the register, while contacts with civil servants with decision-making powers in higher-risk areas, such as licensing, permitting, and public procurement, are excluded. Municipalities are responsible for around 25% of public spending and the share of firms reporting issues with corruption is relatively high (OECD, 2025[56]). Thus, including contacts with local civil servants in higher-risk areas in the register, as was for example done in Ireland, would further strengthen public sector integrity (OECD, 2020[57]). For the planned register to be effective, an independent supervisory body with sufficient resources and investigative powers should be responsible for its enforcement, and sanctions should be applied for non-compliance. Regulations related to party financing as well as asset and income disclosure of public officials are strong, but more could be done to ensure that all political parties submit their required financial statements on time and the KNAB should employ the services of certified auditors to verify the content of these financial statements (Figure 1.19) (Delna, 2021[58]). To mitigate potential conflict-of-interest risks, the existing cooling-off period should be extended to lobbyists entering government, as regulations so far only cover post-public employment restrictions for public officials. In addition, side activities of public officials should be made transparent more quickly to prevent conflicts of interest, particularly at the municipal level.
Note: Panel B shows ratings from the FATF peer reviews of each member to assess levels of implementation of the FATF Recommendations. The ratings reflect the extent to which a country's measures are effective against 11 immediate outcomes. "Investigation and prosecution¹" refers to money laundering. "Investigation and prosecution²" refers to terrorist financing.
Source: Panel A: World Bank, Worldwide Governance Indicators; Panel B: OECD, Financial Action Task Force (FATF) and Anti-money laundering and counter-terrorist financing measures - Latvia Sixth Round Mutual Evaluation Report. Panel C: OECD Public Integrity Indicators, https://oecd-public-integrity-indicators.org/.
References
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