Ten years ago the EU ranked all three Baltic countries as poorer than Bulgaria.
ANALYSIS
To most people the numbers 15.6466, 3.4528 and 0.702804 mean only gibberish, but they actually represent one of the Baltic states' major economic policy success stories. They are the central parities (call it fixed exchange rates) for, respectively, the Estonian kroon, the Lithuanian litas and the Latvian lat vis-a-vis the euro 's i.e. how many kroon, litas and lats one must exchange for one euro.
The year 2005 is an appropriate time for some monetary policy stock-taking. Latvia, the last of the Baltic countries, changed its fix to euro for more than a year given the exchange rates that prevailed on Dec. 30, 2004, as was announced by the Bank of Latvia. All three Baltic currencies are thus fixed to each other for the first time in more than a decade and, lo and behold, are supposed to remain like this forever since the next major monetary policy step is adoption of the euro at the values given above.
After regaining independence, the "old" Baltic currencies 's kroon, lats, litas 's were reintroduced, first in Estonia, then in Latvia and lastly in Lithuania. All three countries eventually chose to fix their exchange rates, with Estonia first again, followed by Latvia and then Lithuania. They chose so-called hard pegs, allowing virtually no fluctuations although their unanimity stopped. Estonia attached itself to the Deutschmark, Latvia chose the IMF hybrid currency, the SDR (special drawing eight), which is a mixture of U.S. dollar, euro (used to be French franc and Deutschmark), British pound and the yen, whereas Lithuania chose the U.S. dollar.
Estonia's fix was automatically converted to the euro by the introduction of the euro in 1999. Lithuania changed in 2002 and now also Latvia has done so.
The million euro question is which country made the best choice initially. I would argue that from a theoretical point of view Latvia did, fixing reasonably well to currencies relevant for its international trade. Estonia made the second best choice, switching to a major trade partner's currency, while Lithuania went through a period of high growth accompanied by negative inflation in 2002 's 2003 due to the falling dollar.
The main issue should perhaps be that all three countries have conducted their monetary policies very well and have achieved the ultimate goal: price stability, and thus reasonable price predictability, with low interest rates. All of which are good for consumers and for enterprises and therefore for economic growth. And with the latter the core of the discussion rests.
Ten years ago the EU ranked all three Baltic countries as poorer than Bulgaria and only Lithuania as richer than Romania 's something unthinkable today, as these countries have long been surpassed. And Estonia and Lithuania have even overtaken Poland. Monetary policy alone has not performed this trick, but no one will dispute that it has played a major role, which the central banks of all three Baltic countries deserve applause for.
Already in June 2004 Estonia and Lithuania joined the so-called ERM II (Exchange Rate Mechanism II) of the Economic and Monetary Union. Think of it as the waiting room for adoption of the euro. Latvia should soon join, and since one of the rules of adopting the euro is to remain in ERMII at least two years without devaluation, a realistic date for euro adoption is still around 2007-2008. With EU membership the Baltic countries were admitted en bloc, and I expect the same with respect to the euro. But it should be expected that the Baltic countries join the euro zone before some of the other new EU member states. This, again, is thanks to the zone of monetary stability created by the fixed exchange rates here.
One element of irony hangs in the air: In a long-term perspective the kroon, the lat and the litas, having existed only very shortly during first and second independence, will only represent transitory phases. In the early 1990s the Baltic countries happily departed from a monetary union 's the ruble zone. In a few years they will, hopefully happily, join another monetary union.
