The deepest recession in the EU and the choice not to devalue

Latvia's GDP chart shows one of the sharpest contractions ever recorded in a European economy: output fell by roughly 18% in 2009 alone, part of a cumulative peak-to-trough decline approaching a quarter of GDP between 2008 and 2010, after a credit-fueled boom financed largely by Nordic-owned banks collapsed almost overnight. Rather than devalue the lats, which was pegged within a narrow band to the euro ahead of planned adoption, Latvia accepted a 7.5 billion euro IMF- and EU-led bailout in December 2008 and pursued what Bank of Latvia Governor Ilmars Rimsevics called a strategy of internal devaluation, cutting public-sector wages by roughly a quarter, slashing spending, and letting prices and private wages fall instead of the currency. Speaking at the Baltic Economic Forum in September 2010, Rimsevics argued the painful adjustment was already paving the way for recovery and for Latvia's eventual entry into the euro area, which followed in January 2014. The strategy proved far more contractionary in the short run than most devaluation-based adjustments elsewhere, but it preserved the peg throughout, and growth returned strongly from 2011 onward, a V-shaped recovery that remains a reference case in debates over fixed-exchange-rate crisis management.