Introduction and Historical Orientation
Latvia is a Northern European country on the Baltic Sea with 498Km of coastline and borders with Belarus, Estonia, Lithuania and Russia. Latvia first established itself as an independent nation in 1918, previously under the control of the Russian Empire. Latvia was annexed into the USSR in 1940 as part of the Molotov-Ribbentrop Pact. It remained in the Soviet sphere until 1991, when full independence was declared. Upon or soon after independence, the country’s historical constitution was re-introduced and today the country operates as a parliamentary republic. The population of Latvia is approximately 1.8 million, with an ethnic distribution of Latvian 63.7%, Russian 23.4%, Belarusian 2.9%, Ukrainian 2.8% and Polish 1.9% (Official Latvian Statistics Portal).
Under the 50-year Soviet dominance, private property was abolished, banks nationalized, and the agricultural sector was collectivized. While Latvia industrialized under the Soviets, its productive capacity was not oriented towards producing goods in a market-based economy, supply chains and exports were more directed into the USSR and its environmental impact ignored. Upon achieving independence, Latvia faced multiple periods of transition during which the superstructure of a modern, market-based economy was built.
Key to this transition were the early decisions to re-orient the country toward Western Europe and the broader global economy. Latvia signed the Europe Agreement just 4 years after Independence and formally joined the EU in 2004. During the following 10 years, Latvia achieved compliance with Maastricht Convergence Criteria in the areas of price stability, fiscal deficit, gross government debt, exchange rate stability and long-term interest rates, and officially adopted the Euro in 2014. Euro adoption lowered borrowing costs, reduced currency risk, facilitated trade integration into the EU and removed idiosyncratic foreign exchange risk in cross-border capital flows. WTO application was made in 1993, and membership granted in 1999. NATO membership was achieved in 2004, and Latvia became part of the OECD in 2016. The inclusion of Latvia into these rules-based, trade-barrier free and policy monitoring institutions was critical to establish the country as a legitimate destination for foreign direct investment and as an attractive trade partner inside Europe and worldwide.
Macroeconomy
Latvia’s economy more than 30 years post-Independence has become more stable and less volatile. Immediately post the 1991 Independence, the Latvian economy experienced an adjustment shock as the economy was forced to re-orient complete supply chains, its end markets fundamentally shifted, the newly-issued currency was highly volatile, inflation was high and legacy commercial entities were sub-optimally structured for competition in open markets. The economy was less diverse than it is today, and the Euro was not yet adopted, providing a stable currency regime into which capital could be deployed. Therefore, Latvia was more susceptible to sector-specific risks and volatility. In 1996, the top three sectors made up 56% of GDP, as of 2024 this had widened out to 43% with just one sector (retail/wholesale trade) constituting 10% of the economy (Latvian Central Statistical Bureau, LCSB). In 1996 there were three sectors that each made up at least 10% of GDP. As the economy has converged structurally with not only the EU but broader Western economies, certain sectors have grown much faster than the overall. The fastest growing of these is the information and communications technology sector (ICT), a focus area of economic development for the Latvian government. Over the last five years, the ICT sector has grown its GDP contribution at a 6.3% compound rate, compared to overall real GDP growth of 1.2% (LCSB).
IMF projects Latvia to grow real GDP over twice the rate of the Eurozone over the next three years. The Latvian economy remains on a convergence path with the rest of the EU where its GDP per capita remains below average. However, given its focus on improvements in governance, investments in high value-added sectors and access to European integration funds, GDP and GDP/capita should outgrow the EU. Latvia has access to the European Development Fund, the Cohesion Fund, the Just Transition Fund and the European Social Fund to develop infrastructure, its social services platform, energy transition capabilities and digitalization efforts.
While the Latvian government does run a structural deficit, in part related to its commitments to defense (2025 defense budget is 3.8% of GDP, MoF-Latvia), its gross governmental debt position remains manageable. General government debt as % of GDP is in the mid-40% range, with the IMF projecting this general level for the next three years. This debt position is lower than the overall EU (87%), many southern European countries that sit well over 100% (Greece, Italy, France) and even Germany (63%).
Latvia is a trade-oriented economy with its total trade position representing 100% of nominal GDP compared to just 49% for the Eurozone (Eurostat, LCSB). This reinforces the small size of the domestic market and the resulting reliance on international trade. Latvia has made substantial progress on its overall trade balance, with the trade deficit/total trade declining from -11% in 2014 to -7% in 2024. The main trading partners are concentrated regionally, with Lithuania (24%), Estonia (10%) and Germany (9%) making up the top three relationships (International Trade Administration). The top export sectors have skewed toward value added areas such as machinery and optical equipment, with Information and Communications Technology products compounding growth at 14% (LCSB, World Bank).
Latvia’s trade position:
Investment, Development and Finance
Due to its small size and lack of sufficient internal financing capabilities, Latvia has needed to position itself as a credible, manageable and reliable destination for foreign capital investment. Funds from the EU are insufficient and many times themselves contingent on co-investment raises to complete the capital outlay. The Latvian government is determined to complete the re-orientation from a Soviet-style, closed market, inefficient and low-cost labor-focused economy to a high-skill, value-added economy. The objectives are to leverage its geographic position in Eastern Europe, albeit firmly inside the EU’s regulatory and governance regime, and to create employment opportunities for its educated workforce before they turn to emigration to maximize their skills.
The competition for capital flow is intense, especially among smaller-market economies that represent limited nominal opportunities as a destination for exports. The Baltics as a group are recent participants in the European market and they have stabilized their economies and dealt with legacy governance issues in the banking sector on different timelines. This has meant Latvia has strengthened their banking system, so that as of Q1:25, the country’s banks had a Common Equity Tier 1 ratio of 23.7% compared to the EU at 16.1%), (ECB). Thirteen banks service the country, with SEB and Swedbank represented from the Nordics and one bank each from Estonia, Lithuania, the other two Baltics. FDI flows have consistently exceeded those of the broader EU over the past five years, although a financing gap remains relative to the other Baltics.
With Latvia’s net FDI flows as % of GDP averaging 4.5% over the past five years, it has lagged Estonia (8.4%) and Lithuania (4.8%). When combined with domestic credit availability measures, the relative funding gap for Latvian corporates is clear. Latvian domestic credit provided to the private sector as % of GDP was 30% in 2024, compared to Estonia at 61% and Lithuania at 36% (World Bank). This combination of comparative lack of depth in bank funding, public corporate credit issuance and slower FDI uptake has been addressed by the recent plan for jumpstarting a positive cycle of investment into the country.
The Action Plan
In July 2025, the government approved a comprehensive plan to address the issues with capital availability and to create an investment and development environment on par with its fast- growing neighbors, Estonia and Lithuania. The Action Plan for Attracting Investment and Improving Access to Finance in the National Economy (“the Action Plan”) has the explicit goal of increasing capital attraction to match its neighbors. This is enabled by the explicit target of increasing loan stock of non-financial corporations from 14% of GDP in 2024 to 17% by 2029 and the objective to grow accumulated FDI stock to €32B from €22.5B in 2024. The five-year average annual FDI flow is targeted to reach €1.9B, which we calculate equates to a 24% increase over the last five years’ average annual FDI inflow.
Latvia’s primary sectoral focus with its development plan will be in value-added bioeconomics, smart energy, transport and ICT. The highlights of the proposed actions to support the Action Plan include the establishment of a framework for the development of corporate bond financing; the creation of an international partner-ship fund oriented toward scalable infrastructure projects; establishment of a government equity fund (ALTUM) through capital sourced from international pension funds; clarify the technology transfer process between academic research and commercialization at venture stage companies. The capital commitment from the Latvian government is €270 million, with the objective of attracting €2.4B in capital for venture, growth and infrastructure investments.
This article is a part of the 2025 Latvia-USA Business Report.