The economy of Latvia today, which is based on light industry and services, looks optimistically toward the future. But, like the other 2 Baltic States—Estonia and Lithuania—which emerged from the break-up of the Soviet Union in 1991, Latvia suffered severe economic shocks in the first decade of its transition from communist rule and has faced a difficult road during its transition to a market economy.
During the 1920s and 1930s, Latvia experienced a miraculous economic recovery after the ravaging of World War I (1914-18). Agrarian reform provided land for the dispossessed. Many farmsteads formed cooperatives that provided loans and export credits, the currency was stable, there was low inflation , unemployment was not as severe as it was in Western Europe during the Great Depression, and Latvia was able to tuck away 10.6 tons of gold in foreign banks. But this recovery was severely interrupted by World War II, and Latvia's economic processes were quickly altered by the invasion of the Red Army of the Soviet Union. As the Soviet Union took command of the economy, almost all property, including farms, was placed under state control, leading to the 1949 deportation of 40,000 mostly rural occupants. The following decades saw a continual struggle between rational communist reformers and political ideologues attached to Moscow, with the latter habitually prevailing. Though there was an attempt to reorient Latvian industry from its growing reliance on imported raw materials, by 1959 Moscow, the capital of the Soviet Union, over-saw all of Latvian industrialization and economic development. Despite such control, Latvians always remembered their previous economic successes and recognized that they would have been better off if they had remained separate from the Soviet Union.
The Soviet economic system entailed the importation of raw materials, fuel, and workers into Latvia, and the exportation of finished products. But the environment and the social welfare of Latvians suffered under this plan, as they did in all the Soviet republics. Finally, by the late 1980s, Latvia managed to gain greater control of its economy, increasing its share of control of financial activities from 17 to 42 percent by 1990. After the break-up of the Soviet Union, all the republics encountered a severe economic trauma. Rising energy prices and lack of price controls made Western goods too expensive for the markets of the former Soviet Union, and the quality of goods produced in Latvia was too poor to be competitive in Western markets. International trade plummeted, manufacturing slowed, and unemployment and inflation soared.
Economic reforms introduced after the declaration of independence from Russia in 1991 called for a shift in the direction of exports away from Russia and toward the West, a change and stabilization of the currency, and a shift away from heavy industry toward a more service based economy. Privatization —the sale or transfer of state-owned businesses to the private sector —has proved to be one of the most difficult aspects of transition. It was some while before a privatization agency was established. There was not enough domestic capital to successfully purchase large enterprises, and perceived political instability and the prospect of costly retrofitting obsolete production companies hindered the attraction of foreign investment, which in itself was met with resistance as Latvians feared the selling off of its assets. Honoring the claims of previous ownership proved to be a difficult task as well. Claimants feared the high cost of repairs that would be necessary for properties, and the division of collectivized farms was troubled by the unequal value of the land.
The 1998 Russian financial crises affected Latvia, which experienced no growth in gross domestic product (GDP) in 1999. But currently Latvia shows every sign of becoming more involved with trade with the West and the world. It has joined the World Trade Organization (WTO) and has joined talks for accession into the European Union (EU). Major foreign investment in 1999 was directed toward real estate and in the financial sector, while investment in 2000 was directed toward energy and transportation. A 5.4 percent increase in the GDP in 2000, a decline in unemployment, and the stabilization of inflation spell good news for Latvia's bid to enter the EU in 2003.