Wednesday, March 3, 2010

Latvia's cost cutting does stand out

Latvia recently reported a 12% decline in average wages in Q4 2009 compared to Q4 2008. I was referred to A Fistful of Euros blog, specifically Edward Hugh's points, regarding the economic implications of this decline (later, Morten Hansen followed up).

Edward Hugh asserts that Latvia's progress in raising competitiveness via wage cuts is little indeed. The lat is pegged to the euro, and the economy is in deep recession so work hours are falling. Therefore, the proper measure of competitiveness is hourly wage growth measured in euros. And by this measure, the headline 12% drop measured overstates the nature of Latvia's competitiveness.

I disagree. In order to address relative wage shifts, one must analyze a cross-section of wage data across the European Union rather than that of Latvia alone. And in that respect, Q3 labor costs - hourly labor costs measured in euros - fell at quicker pace than most of the EU countries. Furthermore, the annual trend illustrates much progress in 2009 compared to 2008.

The chart below illustrates the Q3 quarterly growth rate of hourly labor costs across 24 EU countries for which Q3 data is currently available. Latvia's hourly labor costs are worth note, -6.8% over the quarter, or -2.7% over the year.

Although Latvia it is in good company - hourly labor costs declined in 13 of the 24 EU countries - it did see the fourth biggest drop. And compared to to Greece, +4.9% Q/Q, Latvia's efforts certainly stand out.

But Latvia's wage-cutting efforts are not limited to Q3 2009.

The chart above illustrates the growth of hourly labor costs in the first three quarters of 2009 over the same period in 2008 (red) compared to the 2008 annual growth rate (blue), sorted by the 2009 rates. Although Latvia's labor cost cutting efforts are mainly a Q3 story, hourly labor costs have dropped from growing at a 22% annual pace in 2008 to just a 2.8% clip in 2009 (to date).

Latvia's progress has been significant, but the Eurostat data is only 3/4 of the 2009 story. Latvia has released average (gross) wage growth through Q4 in lats, another -3.5% over the quarter.

Latvia's relative economic importance in the European Union pales to that of even Greece, 2007-2008 average 0.9% and 1.9% of EU GDP, respectively. However, compared to key EU sovereigns, Latvia is taking the necessary steps toward improving its export contribution to growth. But more is needed, since exports barely crossed over the 0% threshold into positive Y/Y growth territory in December 2009, +4.4%.

Note: You can follow the IMF updates on Latvia's progress here.

Rebecca Wilder

1 comment:

  1. Rebecca,

    That's a very smart observation. 


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