1. Impact of possible Lat devaluation on Lithuanian financial system: scenarios and policy choices Stasys Jakeliūnas Discussion at Lithuanian Shareholders Association Vilnius July 02, 2009

2. Objectives of the discussion
Find out more about current situation in Latvia and Lithuania
Learn about factors and dynamics of possible Lat devaluation in Latvia
Explore consequences of possible Lat devaluation for Lithuania
Weigh up advantages and dissatvantages of currency devaluation
Is Latvian peg sustainable? At what cost?
Consider policy choices available to GVTs and CBs

3. Recent developments in Latvia
Further deterioration of economic and fiscal prospects in Latvia
Depletion of foreign exchange reserves at BoL
Freezing of lat money and interbank markets
Credit losses in banks growing fast - recapitalisation needed
Dependency on IMF and EU financing
Statements on possibility of devaluation by Latvian government advisor, officials
Intensive discussion in international media

4. International focus on Latvia
IMF made a mistake agrreing not to devalue, no alternative now (N.Roubini)
Latvia - new Argentina (P.Krugman)
Latvia has an exit - euro, devaluation would lead to major losses and regional contagion (D.Rosenberg)
Only Estonia could have euro in , others - will have to devalue before joining eurozone(Morgan Stanley)
Time to give up (E.Hugh)
Latvia shoud not devalue (WSJ Europe)
Latvia choosing economic torture over chaos (The Economist)

5. Is competitiveness an issue? (Real effective exchange rate)%
Source: Eurostat

6. Currency devaluation vs. deflation
Deflation much worse for economy than mild inflation
Currency devaluation - faster and easier road to recovery
Private sector debt in euros would bring massive losses, but they will come anyway
Negative expectations, possible panic and runs on banks
Export and local producer competitiveness could be boosted
Import prices would go up, risk of inflation

7. If Lat is devalued, how would contagion spread to Lithuania?
Trade channel - is 10% of exports an issue?
Foreign exchange reserves at Central bank: depletion risks and scenarios
Banks: common lender problem - more credit crunch and possible run on banks in Lithuania?
Litas liquidity and rates: VILIBOR at new highs?
Lending to GVT freezing - knocking on IMF door?
Could market perception and expectations break litas peg?

8. Is Latvian peg sustainable?
Foreign exchange reserves position and future: is depletion sustainable?
Is cost/price cutting feaseable and sustainable?
Would devaluation help Latvian exports at all?
Is there and exit - euro 2012 or later: what about Maastricht criteria, incl. 60% gvt. debt/GDP?
Is financing guaranteed and is gvt. debt growth sustainable?
How credible are Latvian institutions?

9. Policy choices: thinking outside the box
Euro debt redenomination to local currency? Freezing the mortgage rates?
Unilateral euro introduction/pressure on EC to speed/modify entry process?
Would you devalue currency provided you can do one or more of the above?
After that, go to IMF for “insurance”?
Any other “outside the box” tricks?
What other major risks do you see in both scenarios - devaluation and not?