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The country's external debt has reached astronomical proportions, and the global financial crisis has made the banking sector -- previously an engine of economic growth -- hopelessly unprofitable. As a result, the state has been forced to make unprecedented cuts to its expenditures.
In mid-June, Latvia's government announced that it would slash pensions, social benefits and salaries while leaving the tax system unchanged. A progressive income tax was rejected as being incompatible with the country's liberal economic policies.
Pensions were cut by 10 percent and by 70 percent for those who continue working while drawing a pension. Allowances for children and family benefits were also reduced by 10 percent. Because interference in the private sector is prohibited, the government chose to cut the salaries of state employees. Now teachers, doctors and even policemen will take home 20 percent less in wages at the end of each month. In contrast to big business, the poorest members of society do not have government lobbyists.
In addition, the minimum salary exempted from personal income tax obligations was lowered from 90 lati to 35 lati ($182 to $71) per month.
The Latvian people are expected to endure these hardships for the sake of avoiding a devaluation of the currency. One doesn't have to be a fortuneteller to guess that all of these sacrifices will be in vain. Devaluation is unavoidable, just as it was in Russia and Argentina, and it will inevitably result in a financial catastrophe.
Against this backdrop, the behavior of the Russian government, burned heavily by its bitter experience of the 1990s, appears to be more sensible now. Choosing between a social catastrophe and currency devaluation, the Kremlin opted for the lesser of the two evils. The ruble lost a lot of its value, but at least there is still enough money in state coffers to pay pensions, benefits and wages for state employees.
True, such policies might be motivated more by fear of mass protests than by any humanitarian motives. And it is possible to predict with a high degree of certainty that when oil prices once again fall as a result of the annual seasonal slump in demand, the ruble will once again be devalued, thereby depreciating people's savings but allowing the government to avoid declaring bankruptcy.
Unfortunately, Moscow's pragmatism is only slightly better than Riga's fundamentalism. There is at best a limited choice of conservative solutions available, and taxpayers are the ones who foot the bill in every case. Until that approach changes, economic policy boils down to various measures designed to postpone -- but not prevent -- the inevitable financial catastrophe.
But I am afraid that it will take a catastrophe for Russia's leaders to finally realize that support should not go to businesses but to the people, that demand must be stimulated and not dampened and that the manufacturing sector can be boosted not by giving state budgetary funds to major business owners but through direct investments and development of the public sector.
However much the government attends to the interests of business, it will not accomplish anything until it understands that there can be no talk of building a solid economy as long as the people are bankrupt, despairing or starving to death.
Boris Kagarlitsky is the director of the Institute of Globalization Studies.
