Dire Latvian economic data have sparked fresh concern about the country's ability to avert economic collapse without more international help and deeper budget cuts.
"Outright default may only be averted if the International Monetary Fund (IMF) and EU maintain support," IHS Global Insight said after fresh data showed the Latvian economy contracted 18 percent in the first quarter of 2009.
"Latvia?s government will probably have to cut spending even more than currently envisaged," IHS Global Insight said as the prime minister seeks to ease spending limits already agreed with international lenders.
The tiny Baltic state of 2.3 million people secured a 7.5 billion euros (10.2 billion dollars) bailout led by the International Monetary Fund (IMF) in December after Riga was forced to nationalise its largest bank, Parex.
Since then, international lenders have delayed payments until Latvia tables its 2009 budget later this month.
Riga agreed to a limit the public defict to five percent of Gross Domestic Product as part of the loan deal but Prime Minister Valdis Dombrovskis has called for a seven percent limit to give him more room for manoeuvre.
"What we are aiming at and also negotiating with international loan providers is seven percent in 2009," Dombrovskis said Thursday in Stockholm after meeting with his Swedish counterpart Frederik Reinfeldt.
A leader in regional economic growth just three years ago, Latvia has gone into reverse, becoming a virtual basket case as the worst slump since the 1930s undoes much of the progress made.
Latvia is expected to suffer the deepest recession in the 27-nation European bloc this year, with the economy shrinking 13.1 percent.
"Any hopes that there will be an immediate recovery are misplaced," Neil Shearing, an emerging market economist at London-based Capital Economics, told AFP.
"This is going to continue for some time," Shearing said.
His view was echoed by IHS Global Insight.
"Latvia's economy faces a downturn which is comparable in terms of severity only with the recession experienced after the fall of the central planning system following the dissolution of the Soviet Union in 1991," IHS Global Insight analysts said in a note, warning that the economy could continue to slide even as the world begins to pick up in 2010.
Latvia has two options if it is to boost its competitive position -- to devalue its overvalued currency, the lat, or to cut wages, Shearing told AFP.
Devaluing the lat would mean removing its peg to the euro, a major political blow. This so far has not been part of talks with the IMF. The government therefore has no other option but to lower wages to raise competitiveness.
"The lowest point of the economic downturn has not yet been reached," Olga Ertuganova, an analyst for Krajbanka warned, adding that budget cuts and international support will play a key role in any recovery.
"In these circumstances, it's important to create reachable budget goals which would allow the government to avoid new talks about another change in the loan agreement," she said.
As it establishes those goals, the government faces an uphill battle with Latvians.
Installed in March, the new centre-right government of Prime Minister Dombrovskis has been trying to slash the budget while students, teachers and police protest en masse.
Adding to the list of protestors, mothers' groups on Tuesday plan to launch a signature drive against the government's push to lower or cancel bonuses for parents of recently born children.