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Benefits and challenges of euro adoption

Massimo SuardiHead of Unit, DG ECFINEuropean Commission

Conference TEN YEARS BULGARIAN CURRENCY BOARD

AND CHALLENGES OF EURO ADOPTION 18 September 2007, Sofia

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Presentation structure

1. Overview2. Benefits3. Challenges 4. The policy agenda ahead

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Overview - NMS on the way to the euro … and beyond

• Euro adoption: all EU MS (except UK, DK) expected to join the euro under the Treaty

• Rules-based framework, based on fulfilment of criteria• Sequenced process – MS have room for manoeuvre in

managing their path towards the euro • Sovereign in choice of exchange rate regime, but XR

policy is a matter of common interest (Art. 124)• Important to take the long view: what matters is long-

term performance before and after euro adoption • Key challenge: achieving real and nominal convergence

in the context of catching-up

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Overview

• CY + MT in the euro area since January 2008• SK targets 2009• Most other countries have no target dates:

• ERM II : EE , LV, LT, SK • outside ERM II : BG , CZ , HU, PO , RO , SE• opt-out: DK, UK

• Postponement of early euro adoption plans due to rising inflationary pressures and/or unsound budget positions

•No immediate deterioration in investors’ sentiment , but markets react to lack of policy discipline or rising macro instability

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Benefits of euro adoption

•Benefits •Greater policy discipline and macroeconomic stability•Completion of the internal market•Increased trade/FDIs•Elimination of currency-risk and vulnerabilities•Reduction of risk premia

• NMS well placed to benefit from euro adoption •High level of integration (trade, FDI, financial)•Correlation of business cycle•But, how does euro adoption interact with real catching-up ?

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Challenges of euro adoption

Two challenges:1 – To get there2 – To prosper in the euro area

•Treaty :

•When rather than whether•Rules-based framework

•Costs of euro adoption•Loss of monetary policy •Function of domestic policies and structures•New dimension: loss of the nominal exchange rate to accomodate real appreciation

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Challenges of euro adoption

• No one-size-fits-all strategy • Two (three) groups of countries:

– Fixed exchange rate regimes (EE, LV, LT, BU)

– More flexible regimes (CZ, PO, HU, RO)– SK: SKK in ERM II, exploiting the band

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Challenges of euro adoption• Fixers• Smaller • Earlier stabilisation• Higher GDP growth (from

lower levels)• Sounder fiscal position • Very large CA deficit• Strong interest rate

convergence• Very high credit growth• FX mismatch• ERM II participation• Early euro adoption plans

• Flexible• Larger• Slower stabilisation• Slower real convergence

• Often high budget deficits • CA deficit• Some interest rate spreads

remaining• Robust credit growth• Lower FX mismatch• Not in ERM II (exc. SK)• No euro date or late date

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The policy agenda ahead• To sum up: MS with hard pegs fixed have performed better in several respects, but are also currently

experiencing larger domestic and external imbalances

• Common challenges to support real and nominal convergence :– Stable macro-economic framework

• Price stability • Fiscal discipline (appropriate fiscal stance ; quality of public finacne ; budgetary

framework) – Capacity to adjust (labour and product markets)

– Manage credit growth (prudential and other measures)

– Appropriate allocation of domestic savings and capital inflows, including EU funds

Reforms should not be undertaken because of the euro, but because they are in the long-term interest of countries