The Convergence Processes in Europe and Latvia

Discussion Paper 1/2011

Summary: This paper, attempting to tackle separately real and structural convergence, is an in-depth study of the convergence processes in Latvia and Europe. Latvia's structural convergence towards both the EU and other neighbouring (Baltic) countries is estimated using the Krugman index. Real convergence processes in the EU, distinguishing between σ convergence and β convergence, are likewise studied. In addition, cluster analysis with grouping European countries by their structural features is conducted.

In this study, the current β convergence and σ convergence processes within the EU are identified, yet an in-depth study disclosed that it was mostly the EU12 countries that were the convergence process drivers, with convergence at the regional level well behind that at the national level. The convergence among the EU Member States primarily depended on the wealthier regions of countries becoming richer (characteristic of EU12 in particular), with the process proceeding at a faster pace in relatively poorer countries. This suggests that within a country the discrepancies between rich and poor regions intensify over time. That leads to a conclusion that the European regional policy aimed at decreasing regional income heterogeneity did not prove efficient in the reference period.

Structural convergence in Latvia was mainly observed in 2008 and 2009, i.e. the years of real divergence enhanced by the onset of the crisis. Structural convergence in the breakdown of gross value added was mainly driven by the fluctuations of the value added ratio of trade, tourism and transport, manufacturing and construction sector.

The conducted cluster analysis demonstrates that over time European countries have become more homogenous or mutually similar in terms of economic structure. A particular focus on the specific economic characteristics of countries leads to a different conclusion: the countries in Europe agglomerated into several specific groups, thus clearly outlining the different drivers of growth in the post-crisis period.

Keywords: Latvia, the EU, structural convergence, real convergence, specialisation, cluster analysis

JEL classification: C20, C50, F15, E13, E60