Latvia experienced quick economic growth from 2004 until 2007 which made it the sharpest growing economy in the European Union in 2005 and 2006.However, the foreign capital was mainly invested in private consumption, including immovable property, instead of industrial manufacturing and export development. The growing consumption and continuously raising amounts of loans in the immovable property sector lead to the immovable property price bubble.The largest debt commitments had been undertaken by the private sector, while the level of government’s debt in Latvia was and still is one of the lowest in the EU.
The consumption-based economic growth in Latvia contributed to rising prices and inflation reached 14.1% in 2007. From 2005 until 2007 the total amount of loans in Latvia had reached nearly 30 billion EUR (equals 130% of GDP). The situation had been made even more uncontrollable by the State which did not secure sufficient control of the credit market and commercial banks, so the Latvia’s economy fell into a deep recession as a result of the global financial crisis striking in 2008 and the following ceasing flow of foreign capital. In the situation of reducing demand levels and destabilised financial market, the sectors hit hardest were construction, manufacturing, and retail.To maintain stability in the financial sector, budget consolidation in the total amount of 1.86 billion EUR had been carried out in Latvia since 2008. Due to the consolidation measures, public expenditure were cut significantly and tax burden was increased.