When Latvia’s citizens woke up on New Year’s Day 2014, they had plenty to be optimistic about. The country had emerged from recession; it had successfully joined the euro; its capital, Riga, had become the European Capital of Culture; and it was looking forward to its presidency of the EU in 2015. But in a year that has seen tensions between Russia and Ukraine descend into all-out conflict, how is Latvia’s economic outlook and investor confidence?

Following a major recession, the country has been reforming its economy, picking itself back up, increasing export volumes to beyond pre-financial crisis levels and notching up the highest GDP growth in the EU. FDI inflows have also gradually increased since 2010, with the government reporting FDI of €11.6bn 2013.

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Mārtiņš Lazdovskis, state secretary at the Ministry of Economics, reports that Latvia is on target to join the OECD in 2015. “Our economic model has changed and we’ve seen export-driven growth as well as an increase in internal demand. Our competitiveness has increased due to decreased labour costs and increased productivity,” he says.

The ministry forecasts a 3.5% increase in GDP for Latvia in 2014, a figure influenced both by a growth in private consumption and an improvement in export opportunities.

Grounds for optimism

Bank of Latvia deputy governor Zoja Razmusa is also cautiously upbeat. “Latvia's rapid exit from recession was determined by the speed and content of growth-supporting decisions taken at the beginning of the crisis,” she says. “Latvia saw an internal adjustment of 14.7% of GDP throughout 2009 and 2010, adding another 2.8% by 2012. The rapid consolidation that came largely on the side of budget expenditure, and was based on structural reforms, restored the overall confidence in the country's policies.”

Latvia’s economy has been boosted in part by the performance of its ports. The Freeport of Riga, which links the EU to the Commonwealth of Independent States and Asia, handles frequent container trains from Russia, Kazakhstan, Belarus, Ukraine, Afghanistan and central Asia, and has regular liner services to St Petersburg and major European ports. The volume of cargo it handles has continued to grow, with turnover in all segments increasing.

The country’s human capital and logistics makes it an interesting investment proposition for a number of firms. Groglass, a Riga-based producer of anti-reflective glass designed for museum display cases, picture frames and TVs, imports glass, coats it and then exports it to more than 35 countries worldwide. For head of sales Arturs Rozkalns, it makes sense to operate from the Latvian capital. “Our hi-tech processes have made invisible glass more affordable,” he says. “We have people highly educated in physics and chemistry, and we have developed the skills and knowledge here to coat glass to the right standard. We have the technology, so if we need support everything is here. This is a good port city, with good transit by trucks, so shipping does not represent a big cost.”

Window of opportunity

As the European Capital of Culture, Riga has had the opportunity to raise its profile not just across Europe but globally as well. This position could be further enhanced when Latvia takes over the presidency of the EU in 2015. Although it is debatable how much a country can achieve during the six short months in which it heads the EU, the country's politicians seem determined to make the most of their time in the limelight. Inga Skujiņa, under-secretary of state for European affairs, EU directorate, at the Ministry of Foreign Affairs, says Latvia will be focusing its efforts on areas such as the single digital economy and the EU’s strategies in the Baltic. About 200 events will be held in the country during its presidency, including the Baltic Sea Forum, and the impressive new national library will be up and running in time to host some of the planned meetings.

Latvia's transition to the euro has also been smooth and efficient. “We can already appreciate the macroeconomic gain; for example, the currency exchange costs have disappeared, bank commissions on euro payments have dropped, and the worry about the devaluation of currency has vanished,” says Ms Razmusa. “There are also gains that we have felt even before the changeover, such as the improved credit rating, which means lower debt servicing costs, and cheaper funds for both the government and businesses.”

Toby Moore, managing partner of Imprimatur Capital Fund Management who is responsible for its operations in the Baltic region, agrees. “The euro has strengthened Latvia's internal confidence as a member of the EU club,” he says. “Externally, people are able to see and feel Latvia's participation. Euro-based trade is easier, the comparative value of assets across Europe is more transparent, and so overall investment and credit risks have been reduced.”

Talent pool

Ivars Slokenbergs, senior associate at business law firm Lawin, believes these factors have shone a positive light on the nation internationally and made it an attractive place in which to invest. “Among other sectors, foreign investors – including US companies – are increasingly establishing shared service centres in Latvia, in order to take advantage of its educated population, foreign language skills and competitive labour costs,” he says.

But pushing against this tide of optimism is an undercurrent of apprehension about Moscow’s behaviour and intentions, with some companies feeling the impact of the West’s tense relations with Russia.

AirBaltic’s vice-president of Corporate Communications, Jānis Vanags, confirms that the geopolitical turbulence in the region is creating challenges. Although the airline recorded a profit of €14m in the first half of 2014, compared with a €12m loss in the same period of 2013, and launched new flights (including connecting Riga with Aberdeen, Moscow and Poprad), it has had to cut capacity in response to the tensions. “Our forecast for 2015 very much depends on the situation in Russia and Ukraine,” he says.

A fast way out

Other sectors are also feeling the effects. “Those businesses that exported food products to Russia are having a hard time, and a much weaker rouble is reducing foreign imports to Russia in general,” says Imprimatur’s Mr Moore. “However, companies that provide an export route out of Russia could be seeing new opportunities. Latvia is an export gateway for Russia for raw materials such as oil and oil products, coal, timber, chemicals and fertiliser, and a relatively low crude oil price could encourage an increase in such export activity.”

Uncertainty over the situation in Ukraine and Russia is affecting investor sentiment in the wider region. “While we are seeing estimates for GDP growth being reduced, in my own profession, advising foreign investors on business transactions in Latvia, we have not yet seen a slowdown in business. However, it is likely that some potential investors have delayed their entry into the Latvian market due to this uncertainty,” says Mr Slokenbergs. “It is clear that the conflict in Ukraine and Russia's new direction will not be resolved any time soon, so this climate of uncertainty is likely to continue. But in the absence of a catastrophic worsening of the geopolitical situation, one can expect investors to factor such uncertainty into what may be the new ‘normal’ in the region.”