OREANDA-NEWS. July 13, 2009. For a long time neither Latvian residents, nor experts were surprised with continuously growing prices in Latvia. Now we can speak about another tendency – the decline of prices. Also in June the prices to goods and services have declined by 0.5% on average, reported the press-centre of Latvijas Krajbanka.

In June the decline of prices could be observed in almost all groups of goods and services. Even greater reductions were limited by the rise in fuel and fruit prices and still growing prices for tobacco products. Unfortunately, oil quotations are growing and the correlation between those quotations and fuel prices in Latvia has always been close. Thus, there is no surprise that as the rally in oil prices lasted, the increase of fuel prices in Latvia was very impressive – 5.6% during one month. 

The recent events allow concluding that the deflation ghost, which we could hardly believe in a year ago, now is almost a reality. Changes in VAT and excise tax rates have slowed down the price decline tempo, nevertheless the annual inflation has decreased from 10.5% in the end of 2008 to 3.4% in June. Unfortunately the recent events in Latvia allow deducing that the recession will be long enough, thus the decline of consumption and overall activity will force entrepreneurs to decline prices even more. Hence in few months also the annual inflation will enter negative zone, i.e. comparing with previous year, the prices will be lower on average.

Although the deflation tendency is not steady yet, several residents of Latvia have already “experienced” negative features of the deflation. Unfortunately the deflation is not a correction of often groundlessly high prices to goods and services, but also the decline of wages. Thus – despite the decline of prices, the purchasing capacity is not growing. In its turn credit payments (if there are any), considering the decline of income, become relatively more expensive, the consumption continues to decline, hence pushing the spiral “deflation – consumption” even harder.

We will be able to exit this vicious circle only after recovery of notable neighbouring economies, besides with a condition, that Latvian manufacturers will be able to compete not only on the outside, but also on inner market, thus giving new breath into our economy. This condition very much depends on the “success” of the deflation processes, which to a large extent is influenced also by the state policy. Unfortunately, the mechanical cut of expenses without parallel implementation of structural reforms in the state apparatus and economy will only deeper the economical decline in Latvia, reducing possibilities to exit the recession relatively painless.