Euro adoption may not be holy grail many believe

RIGA - Estonia is ready to become the next euro member, says World Bank country manager for the Baltics Thomas Laursen, reports news agency LETA. He says that “Estonia is doing everything it can to keep the deficit to within three percent of GDP this year.”
Nordea bank analysts agree that Estonia may have the euro in just over a year after the outlook for its budget deficit improved. Economist Annika Lindblad said in a report that the country will achieve a budget deficit of 3 percent of GDP this year and 3.2 percent in 2010, this an improvement from their September forecast for shortfalls of 4 percent and 5 percent, respectively, reports Bloomberg.

EU rules require countries wanting to join the euro to keep their budget deficits to within three percent of GDP and government debt levels below 60 percent of GDP. Estonia’s budget gap will be 2.8 percent of GDP in 2009 and 2.95 percent in 2010, the government now estimates.
Some have suggested that in the hard-hit Baltic economies, the rules for joining the eurozone be relaxed to allow for early adoption of the euro. EU Economic and Monetary Affairs Commissioner Joaquin Almunia has said however that accelerated adoption of the euro by waiving or loosening entry criteria is not an option for new member states, reports bbn.ee. He stressed that “while euro adoption remains a key policy anchor for the new EU member states, compliance with convergence criteria remains key for keeping the euro currency in shape.”

Focusing on what the euro will not solve, Almunia said that “Euro adoption should not be seen as a quick fix to economic vulnerabilities; [euro membership] does not eliminate the need to work out underlying imbalances.”
Svenska Handelsbanken’s Deputy Head Bo Kragh considers that the euro has become an “official religion for Estonia that justifies all means. You get the impression that for leading Baltic politicians the eurozone has become the gateway to paradise... eternal bliss.” Kragh was advisor to Estonia in 1992 in its currency reform.
He says that the Swedish example shows that there is little value in replacing the national currency with the euro. Sweden, with its floating exchange rate, devalued its currency by 20 percent which helped to maintain tourism revenues, lower interest rates, made Ericsson more competitive than Finland’s Nokia, and helps ensure that the Swedish timber industry is more efficient than in Finland.

Questioning the enthusiasm of Baltic governments, he asks “Why should Brussels bend the rules if Baltic states are determined to meet all Maastricht criteria anyway?” The Baltic elite that values above all EU and NATO membership “is driven towards the eurozone by fear and vanity, while the loss of a national currency makes the Estonian economy dependent and unable to react flexibly to economic crises.”
Kragh suggests that “Inclusion in the eurozone will integrate the Baltic states into the pan-European security system even further. Baltic politicians want eurozone membership since they would be then invited to the ministerial meetings of eurozone countries, unlike leaders of the UK and Sweden.” In his opinion, Estonia’s economy will be saved only through its close ties with Sweden since many Estonian high-tech companies belong to Swedish groups.
Nordea has said that adopting the euro will be no quick fix for the economy as “euro membership at the present exchange rate will do little to solve the basic problem of the Estonian economy of improving competitiveness. Structural reforms and cost-cutting have to be continued.”

Government debt will be only 7.4 percent of GDP in 2009, the lowest in the EU; this compares with an estimated 73 percent average for the 27-member bloc. The government has cut public spending, including freezing mandatory pension contributions, raised taxes and booked higher dividends from state-owned firms to reduce the budget deficit by nine percent of GDP this year.
The measures contributed to a 15.3 percent annual contraction in the third quarter, following a 16.1 percent slump in the second quarter. Nordea forecasts that Estonia’s GDP will fall by 14.5 percent this year and another 1.5 percent next year, pulled down by weak domestic demand, before expanding 2.8 percent in 2011.

Estonia is “doing much better” with regard to its euro-adoption bid “than the other Baltic countries,” says Laursen. Latvia says it will not be able to adopt the euro until 2014, while Lithuania has no official target.
Estonia, which built up reserves from previous budget surpluses, has weathered the crisis better than Latvia or Lithuania. “The main problem in the Baltics was overheating and excessive expansion of domestic demand. But they are also very open economies, and so they had a real double whammy this time round,” he says.
Economic growth in the coming years will depend primarily on the recovery of the world economy, especially Scandinavian economies, predicts Nordea.