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Lithuania - Economic Reforms
During the early 1990s, the government launched a comprehensive program of market-oriented reforms, which included the privatization of state-owned enterprises, the lifting of price controls, land reform, and reform of the banking sector. Also, a new national currency, the litas, was introduced in June 1993.
More about the Economy of Lithuania.
Inflation resulted from the lifting of price controls and from the shortages that resulted from trade disruption around the time of the collapse of the Soviet Union. Inflation, which was 225 percent in 1991, increased to 1,100 percent in 1992, fell to 409 percent in 1993, and dropped further to about 45 percent in 1994. Wages remained stable in 1991 but declined 30 percent in real terms in 1992. Prices increased several times more than wage and pension raises.
Privatization occurred at a rapid rate in the 1992-94 period (especially with respect to farmland, housing, and small enterprises), and about half of the large and medium-size enterprises scheduled for privatization were sold through public share offerings. The Law on Initial Privatization of State Property of the Republic of Lithuania, passed in early 1991 and amended several times in 1993 (primarily with regard to land reform and restitution), served as the principal basis for undertaking privatization. To start the process, the law authorized the issuance of investment vouchers to residents of Lithuania, to be used for the purchase of housing or other property. Most housing property eligible for privatization had been privatized by the end of 1993. Large enterprises also were to be privatized, with priority given to purchases of shares by employees of those enterprises. The number of shares that employees had the right to purchase in companies being privatized was increased in 1993 from 30 percent of total shares to 50 percent. By November 1994, more than 5,000 enterprises, or 80 percent of the assets earmarked for privatization, had been sold off.
Prime Minister Slezevicius coped with the high rate of inflation by avoiding the temptation to promise compensation to pensioners and others whose savings were wiped out by inflation. He also avoided giving in to demands for increased subsidies and support for utilities and public transportation, which traditionally had been provided by the central government. The opposition, led by former Prime Minister Gediminas Vagnorius, was pressing for compensation to savers and investors, but the public voted not to support the measure in an August 1994 referendum. By adhering to Lithuania's structural adjustment program, which had been worked out in cooperation with the IMF, Slezevicius demonstrated his confidence in the reform process.
Prime Minister Slezevicius acknowledged that weakness in the banking sector was one of the most important challenges for his government and, if not properly supervised, could limit long-term economic growth. Lithuania needs to do more to live up to this commitment. Despite several bank failures, the number of banks increased from twenty to twenty-six from 1992 to 1994.
Significant factors guiding the reform of the banking sector are the technical advice and assistance of the IMF, which in October 1994 granted Lithuania a three-year US$201 million credit, and the reforms required for membership in the European Union (EU--see Glossary). The IMF has blamed the Bank of Lithuania's loose monetary policy in part for rising inflation. Some Western observers cite the central bank's institutional weakness and lack of autonomy as the main reasons for its ineffectiveness. The EU requirements are set forth in a white paper that describes the sectoral conditions that each prospective member of the EU must satisfy prior to joining. These requirements touch on every sector of the economy. Membership in the EU is a primary goal of Lithuania's domestic and national security policies. The white paper requires an efficient and open financial market and a banking system that encourages market-directed capital flows. Member states are required to pass and implement legislation concerning the soundness of banking institutions.
Lithuania has made progress in reducing government expenditures to match government revenues. In March 1990, Lithuania began the difficult process of eliminating subsidies, introducing new taxes, and administering a new tax collection system. Personal income taxes, corporate profit taxes, and a value-added tax (VAT--see Glossary) were introduced. The personal income tax rate ranges from 18 to 33 percent. The corporate profit tax rate is 29 percent, with a discounted rate of 24 percent on retained earnings and 10 percent on the earnings of agricultural enterprises. The VAT is 18 percent, and there are excise taxes on alcohol, tobacco, petroleum, furniture, jewelry, land, and other items and transactions. Lithuania has been reluctant to reduce its high tax burden for fear of fiscal instability, but high taxes have led to an environment that encourages underreporting and corruption, stimulating the underground economy.
Corruption and violence occasionally marred the privatization process. There were difficulties with auction sales of enterprises because speculators and organized crime conspired in bidding, bribed officials, or scared away competition with physical threats. Nevertheless, by the middle of 1994 the government had privatized state property worth a total of 489 million litai (35 million litai in cash and 454 million litai in vouchers and other forms of compensation), allocating the cash received to national and local privatization funds.
Lithuania sought to regulate privatization of agriculture and to liquidate collective farms. The 1991 privatization law initiated agricultural land reform based on the proposition that nationalized land must be returned while unclaimed land could be sold to prospective private farms on long-term installment plans. Agricultural privatization proceeded rapidly; by the middle of 1993, some 83 percent of the agricultural privatization program had been completed.
After independence in 1991, the government began to restructure its expenditures. Subsidies were reduced from 37 percent of government expenditures in 1985 to 6 percent in 1992, while expenditures for the social safety net (social security, welfare, housing, and communal activities) increased from 15 percent to 32 percent of expenditures over the same period. These shifts in expenditures are a result of the central government's assumption of responsibility for the social safety net from enterprises that had been responsible for them during the Soviet period. Projected government expenditures in 1995 equaled 26 percent of GDP.
The greatest difficulties in implementing Lithuania's privatization program were experienced in agriculture because rapid privatization caused fear and confusion in that sector. The laws provided for the dismemberment of collective farms but did not definitively ensure their replacement by at least equally productive private farms or corporations. The many small private farms that appeared on the landscape were inefficient. Conflicts frequently arose over title to land. Many new owners did not intend to cultivate the regained land or to actively engage in farming, and as a result tens of thousands of hectares were left fallow. Collective farm managers and their friends stole or cheaply acquired tractors, cattle, and other property.
The budget of the central government ran a deficit throughout the late 1980s. The amount of the deficit at that time was relatively small--about 3 percent of the gross domestic product (GDP--see Glossary). The central government ran a budget surplus of 3 percent of GDP in 1991. The budget had a surplus in 1993 but a slight deficit--1 percent of GDP--in 1994.
Lithuania's 1994 reform program included a review of the bank licensing system, privatization of the three state banks (Savings Bank, Agricultural Bank, and State Commercial Bank), a review of capital requirements to ensure compliance with international standards, and the introduction of new plans for accounts at the Bank of Lithuania and for commercial banks. The program also called on the government to pass stronger bankruptcy legislation and to ensure its enforcement.
Reform of the Banking Sector
Monetary and Fiscal Policy
The litas was introduced as the new national currency on June 25, 1993. It became the sole legal tender in August 1993. The litas has been stable since then, maintaining a value of 4.0 litai = US$1 since its introduction.
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Economic Reform in Lithuania | World Finance
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