Ms. Elena Leontjeva was one of the active champions of the currency board system in the pats decade. Under her leadership, the Lithuanian Free Market Institute has advocated the idea of the currency board, strongly supported its implementation and helped drafting the law on litas credibility. As numerous attempts were made to scrap this system, LFMI and its President stepped in every time in its defence. In the following interview Ms. Leontjeva shares her recollections and explains the reasons why this monetary system was needed in Lithuania.
In 1993-1994, as the President of the Lithuanian Free Market Institute, you supported strenuously the idea of a currency board arrangement and contributed significantly to its implementation in Lithuania. Why, in your opinion, this particular monetary-policy regime was the right reform path at that time?
After the trying ordeals of socialism, Lithuania has deliberately chosen the course of the free market, and money in such a market does not depend (or should not depend) on political or interest group pressure and has to serve people credibly in all its functions. In the past such money was gold and silver but it was abandoned gradually as people wanted to take the helm of money into their own hands. In those days Lithuania was contemplating an option to return to gold, but despite the fact that Lithuania had been under the gold standard until the USSR occupation, and certain sentiments to adopt this decision were felt, however, the circumstances were not pertinent to do so. The gold standard was no longer used anywhere else in the world, and this factor halted Lithuania (as would have done to any other small country) from reverting to it.
Clearly, the alternatives we had were scanty – either a currency board or a discretionary monetary system. The currency board was not an ideal system but nonetheless it helped to iron out an array of the most daunting problems that people faced. The essential characteristics of a currency board arrangement are these: a fully convertible currency and free movement of capital; a 100 percent backing of national money with foreign reserves; a stable, not interventionist, exchange rate of currencies; money shielded from any type of political manipulation, “dilution” or artificial revaluation; market interest rates secured from interventions and other features. Evidently, the sole advantages of the currency board are related to safeguarding money from discretionary decisions of the government.
The launching of the currency board system must have been a lengthy and complicated process, punctuated by furious resistance of its opponents. How the-then efforts seem after ten years? What events are embedded in your memory most conspicuously?
I remember most vividly Pope John Paul II’s visit to Lithuania when the litas surged against foreign currencies twice (the reason was not heightened religious belief of course, but a restrictive policy of the Bank of Lithuania that curtailed the money supply). As a result of this policy, the country fell short of litas and the exchange rate of the national currency kept growing unremittingly. The business sector was paralysed, and it was impossible to envisage not only the yield on long-term investment but also the profitability of trade operations that last just for two weeks. All these disastrous effects were the result of the central bank’s vain efforts to “calm down” the national currency.
The problem of money credibility and its protection from monetary authorities became as pressing in those days as never before. I took into account this issue and published an article in one of the leading national dailies, Respublika, describing a monetary system that could secure people from similar cataclysms. We had been debating this monetary-policy regime before the litas was launched in the country but everyone then seemed to be more concerned about having national money but less so about a mechanism of its issuance. Afterwards the idea of the currency board was introduced at the Economist club and other audiences. Then followed the invitation by Prime Minister Mr. Adolfas Slezevicius to discuss this topic in more detail. Mr. Slezevicius appeared to be a vehement supporter of this idea, and I believe this acted as the first turning point in the history of launching the currency board in Lithuania. Shortly after that, the International Monetary Fund promised the Lithuanian Government to back the implementation of the currency board, and this was the second decisive factor to go along. The third crucial contributor to the process was when the parliamentary fraction of the Lithuanian Democratic Labour Party upheld this idea and later voted for the draft law on litas credibility. This party proved that they had cared for the interests of ordinary citizens rather than for retaining “monetary sovereignty” and printing money at will.
I should add though that when I and the task force set up at the government were drafting the law on litas credibility people kept repeating to me that we were just wasting our time and that the interest groups will triumph at the critical moment and the Lithuanian Democratic Labour Party would step back. As if on purpose, the exchange rate of the litas stabilised, generating a natural thought that the tribulations were over and that Lithuania was no longer in need of this law on litas credibility. The ranks of opponents were swelling but this fact is probably not essential today.
As time went by, the number of supporters of this reliably operating system increased, and today no one would want to eliminate this system and no one prognosticates its “crumbling down.” I think that the currency board was criticized in those days not just because its economic and financial merits were vaguely perceived. It might be that people in Lithuania were simply dazzled by the regained independence and lacked understanding that what they had retrieved was their freedom from various rulers and that it was not the rulers’ boundless freedom to act as they please. Sadly, this principle was scarcely admitted into the realm of monetary authorities in Lithuania in those days. When people talk about problems that plaque Lithuanian society today, they usually point to those areas in which the principle of limited government has not found consistent and detailed expression. Take, for example, any sphere – land sales, construction permits, tax interpretation, etc. – all their ills take the same roots – the abuse of unconstrained power.
Lithuanian exporters and importers faulted the currency board system for failing to hedging them against fluctuations in currency exchange rates which led them to lose the markets. Can these arguments be justified?
This monetary-policy regime couldn’t have shielded them from fluctuations in exchange rates as such is not its purpose. It has safeguarded money from government and interest group intervention and has fulfilled this function without rebuke. There were at least several episodes in the history of the currency board when the government was tempted to solve problems by slipping its hand into the pockets of all of us. The said occasions were the crisis of the banking sector in 1995 and the break-up of the state finance system in 1999. In fact, inflation and devaluation have been (and remain) the constant phenomena of life in all of Central European countries that have no similar scheme. The exception is Latvia which has no safeguards set by law but the principles of the currency board are enshrined in the rules of Latvia’s central bank. As for exchanges rates – just imagine a situation in which our monetary-authorities try to please one and then the other interest group! The exchange rate would be leaping about at such frequency and amplitude that any stable exchange rate would seem salvation for people.
I understand very well that the issue of fluctuations in exchange rates is very important, and often even grievous, for those working on the outside markets. But the exchange rate of the euro and the dollar would fluctuate anyway – whether the litas be pegged to either of these currencies or “unleashed” from any anchor (well, unless we believe seriously that the litas “props up” any anchor currency it is linked to). Fluctuations in currency exchange rates would remain a problem for Lithuanian companies all the same, only it would be accompanied by yet another day-to-day conundrum – the question of the exchange rate of the national currency to the dollar, the euro and all the rest of the world’s currencies.
As money is the expression of all, it is human to cast the blame on it when things go wrong, although the dissatisfaction should be aimed at completely other targets. If income is lower than expenses, it’s not money to blame, even though money is used to express a result. It is true, there is one more aspect of such discontent. When currencies in the rest of the world are ruled by national governments that try to be “good” to their own manufacturers, to have stable money becomes a tough test. It resembles a duel of a decent man with the one who is treacherous and cheats. And on top of that, your own “anchor” is not without sin either. It is baffling, indeed. Luckily, Lithuanian manufacturers and traders have survived in this struggle. More than that, their competitiveness rests on their own capacities rather than injections of continuously devalued money. They have prepared to compete in Europe’s and the world’s markets much better as compared to those who are used to working in the environment of constantly depreciating currencies.
Lithuania is bound to renounce the currency board system in several years and join the European Monetary Union where the central bank is an active player in forming monetary policy. Is there any probability that the principles of the currency board could be applied to policies pursued by the European Central Bank?
The euro is the only anchor currency in all member-states, so the principles of the currency board have already been implemented, but only with respect to national banks, not the European Central Bank. Is there any chance to propose this bank linking the euro to any other currency? It sounds like a joke, although pegging in currency board arrangements is just a mechanical principle, while at the bottom lie constrained powers of monetary authorities and non-intervention into the market. This is a relevant issue, and there is much to think about! After all, there is no such thing as “market interest rates” in the world any more, and what we call market interest rates here in Lithuania, indeed, is just a derivative of the administratively fixed interest rates of the world’s major currencies, just small adjustment according to the market. Since the time central banks started commanding the money market, the market as such has vanished. For this reason the gold standard was bound to wane as it had been a roadblock to central bankers’ unrestricted ruling of money, an unhandy “harness” of their power.
I think that developments and trends in the currency “market” are signalling that tools will be searched to limit government interventions and to revert to the market with a genuine non-administratively set price of money. It wouldn’t matter then who would issue money and what their colour would be. It would reflect the fundamental phenomena of the economy rather than the government. Perhaps the most consequential aspect of our “experiment” is that we have preserved money protected from government discretion and have witnessed that such a leash remains purposeful in the modern age of the man’s power.
