Feb. 20 (Bloomberg) -- Latvia’s four-party coalition government, facing the steepest economic decline in the European Union and plunging public opinion ratings, resigned after two parties called for Prime Minister Ivars Godmanis to step down.

President Valdis Zatlers told a news conference in Riga today that he had accepted the resignation and that talks on forming a new government would begin next week, which coincides with the visit of an International Monetary Fund mission.

“I will continue to work and guide this government until a new one can be formed,” Godmanis, 57, who has led the coalition since December 2007, said. It was the second government to resign in Europe during the economic crisis after Iceland.

East Europe has been battered by the global financial crisis, which is curbing demand for their exports while shutting off credit and investment. Gross domestic product in Latvia, which has had 14 governments since breaking from Soviet rule in 1991, contracted 10.5 percent in the fourth quarter. The country followed Ukraine, Serbia and Hungary in seeking international aid when it lined up 7.5 billion euros ($9.5 billion) in loans from a group led by the IMF in December.

Street Violence

Mareks Seglins, the chairman of the People’s Party, and Augusts Brigmanis, the head of the Greens and Farmers’ parliamentary faction, had called on Godmanis to step down and allow a new government that represents more lawmakers to be formed. Godmanis’s Latvia First/Latvia’s Way Party was the third largest in the coalition, which held 52 of parliament’s 100 seats.

The deepening economic crisis has sparked the worst street violence since independence, when hundreds rioted in Riga’s old city, smashing windows and battling police after a peaceful anti- government demonstration of about 10,000 people on Jan. 13 had dissolved.

“I told the parties this was the moment of truth,” Godmanis, 57, said adding that a government that has resigned may not have the authority to sign international documents. The IMF has some requests for the government and the “it’s very important for them to know our position,” he said, declining to say what the requests were.

Mounting Pressure

Pressure will continue to mount on the next government to cut spending further as the recession is expected to deepen, analysts said. The Finance Ministry on Feb. 18 said the economy may shrink 12 percent this year, a change from its earlier forecast for a 5 percent contraction.

“Early elections now look like the most likely outcome, even though President Zatlers today said that talks will start on Monday to try to form a new government,” Lars Christensen, chief analyst at Danske Bank, said in a note.

“The resignation of Godmanis is a clear escalation of the political crisis that has hit Latvia, and there is little doubt that this could lead to serious speculation about the government’s austerity measures as part of the IMF-led rescue package that the country received in December,” he added.

Zatlers said on Feb. 13 that Godmanis had “lost his trust” after the government abandoned plans to cut the number of ministries. Zatlers then said on Feb. 16 that Godmanis had admitted he made a “mistake” and agreed to continue with plans to reorganize the government.

Danske’s Christensen said the turmoil will also put pressure on Nordic financial markets and currencies. The Swedish krona fell 1.1 percent against the euro after the Latvian resignation announcement. Shares of Swedbank AB, the biggest bank in the Baltic states, dropped 4.2 percent after the news.

To contact the reporter on this story: Aaron Eglitis in Riga at aeglitis@bloomberg.net

Last Updated: February 20, 2009 10:39 EST