After strong growth in 2011, Latvia's GDP is expected to slow in 2012 due to weakening external demand. Export performance supported domestic demand recovery in 2011. Inflation increased in 2011 due to global price rises and indirect tax changes. Unemployment continued declining in 2011 and competitiveness improved as wage growth matched productivity and export market shares grew. Current account deficits narrowed significantly from pre-crisis levels. Monetary policy remains tight with high capital reserves and liquidity while non-performing loans peaked in late 2010 and have shown signs of improvement.

1. Recent Economic Developments
in Latvia and Medium-term
Outlook
January, 2012

2. Macroeconomic Overview
2

3. After a robust economic growth in 2011, GDP is
expected to slow down due to weakening external
demand and global uncertainty
Real GDP growth (%)
8.00
6.6%
6.00 5.6%
3.4%
4.00
2.5%
2.00
0.00
-2.00
-4.00
-6.00
-8.00
2010 Q1 Q2 Q3 Q4 2011 Q1 Q2 Q3 2011F 2012F
Source: Central Statistical Bureau of Latvia, F - Bank of Latvia forecast 3

4. In 2011, export performance has
supported recovery of domestic demand
Real GDP growth (y-o-y, %) and contribution to the growth (percentage points)
20
15
10
5
0
-5
-10
-15
-20
Q2
Q3
Q4
Q2
Q3
2010 Q1
Private consumption Public consumption GFCF 2011 Q1 Changes in inventories
Exports Imports GDP, % yoy
Source: Central Statistical Bureau of Latvia 4

5. Rebound in manufacturing has been underpinned
by strong export expansion
Manufacturing output volume index and real export (2005 = 100)
150
140
130
120
110
100
90
80
70
Q1 2011
Q1 2006
Q1 2007
Q1 2008
Q1 2009
Q1 2010
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Manufacturing (seasonally adjusted data)
Manufacturing (non-adjusted data)
Real exports (nsa)
Real exports (sa)
Source: Central Statistical Bureau of Latvia

6. Global prices as well as indirect taxes
contributed most to the increase in inflation
Y-o-y inflation excluding food, energy prices and tax changes (%), contributions
(percentage points)
12
Energy Annual average inflation
10 Food forecast:
12 month inflation (%) 2011 – 4.4%
8 Inflation excluding food and energy (%) 2012 – 2.4%
Inflation excluding food, energy at constant tax rate
6
4 4.4
2
0.6
0
-0.5
-2
-4
-6
-8
I III V VII IX XI I III V VII IX XI I III V VII IX
2009 2010 2011
Source: Central Statistical Bureau of Latvia; Bank of Latvia’s calculations and forecast

7. Unemployment rate continued to decline
Unemployment rate (% of economically active population)
19.7 20.5 19.4
18.7
20 18.4 17.9
15.9
16.7 17.3 16.9 16.6
15.1
16.2
15 13.9
11.5
9.9
10
6.5 7.2
6.3
5
0
2010
IV
IX
IV
IX
IV
IX
IV
IX
III
V
X
III
V
X
III
V
X
III
V
X
VIII
VIII
VIII
VIII
II
II
II
II
VII
XII
VII
XII
VII
XII
VII
VI
XI
VI
XI
VI
XI
VI
XI
2011 F
2012 F
2011 I
2008 I
2009 I
2010 I
Registered unemployment rate Unemployment rate (Labour Force survey)
Source: Central Statistical Bureau of Latvia; State Employment Agency; F – Bank of Latvia forecast

8. Competitiveness issues
8

9. Wage-productivity gap has been closed
Labour productivity and real wages
(2005 Q1 = 100; seasonally adjusted)
150
140
130
120
110
100
90
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
2011 Q1
2005 Q1
2006 Q1
2007 Q1
2008 Q1
2009 Q1
2010 Q1
Labour productivity Real wage
9
Source: Central Statistical Bureau of Latvia; Bank of Latvia’ s calculations

10. The price and cost competitiveness has improved
markedly as compared to the pre-crisis levels
The REER of the lats (Jan 2000 / Q1 2000) = 100)
130
125
120
115
110
105
100
95
90
85
80
75
2000 I
2001 I
2002 I
2003 I
2004 I
2005 I
2006 I
2007 I
2008 I
2009 I
2010 I
IV
X
IV
X
IV
X
IV
X
IV
X
IV
X
IV
X
IV
X
IV
X
IV
X
IV
X
2011 I
IV
X
VII
VII
VII
VII
VII
VII
VII
VII
VII
VII
VII
VII
REEER_CPI REEER_PPI REEER_ULC_manuf
Source: Bank of Latvia
10

11. Latvia’s export market shares are growing in
most of our key markets reflecting gains in
competitiveness
Share of Latvian exports in particular country’s imports, % (4q-moving average),
2008 Q4–2011 Q3
12
0.45
9
0.30
6
0.15
3
0.00 0
EU27 Germany UK Sweden Denmark Finland Poland Russia Estonia Lithuania
72.8% 8.3% 3.1% 6.2% 3.3% 3.2% 5.8% 10.2% 14.5% 17.5%
11
Source: Eurostat, Central Statistical Bureau of Latvia; Bank of Latvia’s calculations

12. External imbalances have seen a significant
improvement resulting in a sustainable level of
CA and its components
Current account main positions (% of GDP)
10
8.6
5 3.0
1.1 0.9 0.6
-0.6
0
-3.7
-5
-10
-15 -13.1
-20 -22.6 -22.4
-25
2006 2007 2008 2009 2010 Q1 2011 Q2 2011 Q3 2011 2011F 2012F
Current transfers Income Goods and services Current account
Source: Bank of Latvia ;F- Bank of Latvia forecast

13. The pickup in FDI inflows reflects
growing investor interest
Net FDI inflows(% of GDP)
10
8.4
8.1
6.1
5
3.8
1.6
0.4
0
2006
2007
2008
2009
2010
9 months
2011
Source: Bank of Latvia
13

14. Monetary and Financial Market
Developments
14

15. Both tight lending standards and low demand
for loans determined credit decline
Credit to private secor (y-o-y, %)
100
80
60
40
20
0
-20
IV
IV
IV
IV
IV
IV
IV
I 2011
IV
I 2004
X
I 2005
X
I 2006
X
I 2007
X
I 2008
X
I 2009
X
I 2010
X
X
VII
VII
VII
VII
VII
VII
VII
VII
Annual growth of household credit stock
Annual growth of nonfinancial corporation credit stock
Annual growth of resident credit stock (without government)
15
Source: Bank of Latvia

16. The backing of the monetary base with
foreign reserves exceeds 150%
Net foreign assets and Monetary base (mln lats)
4500
4000
3500
3000
2500
2000
1500
1000
500
0
IV
V
IX
X
IV
V
IX
X
IV
V
IX
X
IV
V
IX
X
VI
VII
VIII
VI
VII
VIII
VI
VII
VIII
VI
VII
VIII
I 2008
II
III
I 2009
II
III
I 2010
II
III
II
III
XI
XII
XI
XII
XI
XII
I 2011
XI
Net foreign assets Monetary base
16
Source: Bank of Latvia

17. Capital adequacy ratios continued to be
significantly higher than the required minimum
of 8%
Capital adequacy ratios (%)
18
16
14
12
10
8
6
4
2
0
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3
2006 2007 2008 2009 2010 2011
CAR Tier 1 ratio
Source: Financial and Capital Market Commission 17

18. Liquidity level remains very high
Liquidity ratio (defined by FCMC, %)
70
60
50
40
30
Q1 2011
Q1 2006
Q1 2007
Q1 2008
Q1 2009
Q1 2010
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Q4
Q2
Q3
Source: Financial and Capital Market Commission 18

19. Non-performing loans have peaked in Q3 2010;
signs of improvement are evident
Amount of loans over 90 days past due, provisions and their share in outstanding
loans
% Mln. of lats
20 3000
18
2500
16
14
2000
12
10 1500
8
1000
6
4
500
2
0 0
1Q 2008 3Q 1Q 2009 3Q 1Q 2010 3Q 1Q 2011 3Q
Share of provisions in outstanding loans
Share of loans over 90 days past due in outstanding loans
Provisions (right-hand scale)
Loans over 90 days past due (right-hand scale)
Source: Bank of Latvia, Financial and Capital Market Commission

20. RIGIBOR rates still remaine at low levels
Money market rates (%)
30%
25%
20%
15%
10%
5%
0%
RIGIBOR 3M RIGIBOR 6M RIGIBOR 12M 20
Source: Bank of Latvia

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