We (do not) need the Euro

The first of January in 2014 is the official euro introduction date in Latvia. Government is in a rush to introduce euro currency in Lithuania too. Having in mind, that Lithuania is holding the Presidency of the Council of the European Union in the second half of 2013, this matter will be on agenda for the upcoming half a year in Lithuania for sure.

Government in Lithuania reports a specific euro introduction target date – 2015. National Euro Changeover Plan as well as Public Awareness and Communication Strategy are being prepared. However, not everyone is assured if the benefits of the changeover to the euro currency are going to offset the damages caused. According to Eurobarometer (July, 2012), 55 percent of the respondents believed that the changeover to the euro currency would have a negative impact.

The benefits of the changeover to the euro currency are broadly discussed and hardly controversial. The changeover will eliminate the risk of political devaluation of litas as well as currently existing euro to litas conversion costs, improve investment attractiveness of Lithuania, lower the cost of borrowing. An attempt to introduce the euro has a positive disciplining affect on the finance of the government.

Unfortunately, the risk of the changeover to the euro currency, especially the long term risk, is more difficult to measure and name. Lithuania‘s input into European Stability Mechanism can reach 1 billion litas (€290 millions). In addition, everyone is frightened by the fact that the changeover to the euro currency will accelerate price rises. Based on the data published by Statistics Estonia, the changeover to the euro currency resulted in increased consumer price level by 0.2 – 0.3 percent. Increasing money supply is the key reason for rising prices (European Central Bank (ECB) multiplies euros dilligently). A disproportionate rise in prices in Lithuania, related to the changeover to the euro currency, may arise only if, there will be a pressure on prices not to increase before the changeover in order to stay compliant with the Maastricht Inflation Criterion. In this case, the evolution of prices will increase naturally, but not due to the currency changeover, but due to the time that prices‘ growth was artificially stopped.

However, the main risk of the changeover to the euro currency is the future of the euro itself. Lithuania does not need any particular currency, it needs a stable and reliable currency. The decision on the introduction of the euro is political, but it has to consider not only the short-term, clearly tangible economic benefits, but also long-term and difficult to quantify, but potentially a very serious risks.

At the moment the euro currency limps. Euro zone economies are going through the crisis of a public sector debt, stagnating economy, declining competitiveness. The start of the economic downturn was followed by ECB freeing its monetary policy reins and trying to solve the euro zone countries‘ financial and economic problems by “printing” more money and reducing the credibility of the euro as a currency.

Therefore, whether it is worthy for Lithuania to intrinsically tie itself to the euro currency depends on how we evaluate the future of the euro. Especially, given the fact, that the present is bleak. It is difficult to foresee the future, but we can identify the conditions and requirements for the euro as well as European Economic Policy, under which the euro can again conside with a stable and reliable currency requirements in the future.

First, a stable euro needs a responsible (i.e. strict) monetary policy. Although ECB was set up following the footsteps of the former German Central Bank, that gave strength to the German mark, the discipline of the euro zone‘s monetary policy declined. Since the introduction of the euro in 2002, money supply was increased by 3.3 times. In 1999 to create one GDP euro, 63 cents were needed, while in 2012 – 1 euro and 14 cents. Since 2008 ECB began to cut the refinancing rate, in 2013 it reached the all-time lowest point of 0.5 percent. Having inflation adjusted, commercial banks borrowed from the ECB more than returned. This policy favors those who borrow, however it reduces the value and reliability of the currency. Paradoxically, if we choose to have a stable euro, we must protect it from the ECB and his cheap money policy.

Second, a stable euro requires a stable and growing economy. The stability of euro as well as any other currency, that is not backed by anything, refers to the strength of euro-zone countries‘ economies. Long-term economic growth in Europe will be achieved only if simple, but key basics are not forgotten: smaller, or at least not growing tax burden, smaller or causing a smaller burden state regulation of economic activity, ripe for structural reforms (eg., labor relations, social security, etc.) and the united market, that ensures the four freedoms. This is not new, but is often neglected.

Third, stable euro requires responsible public finance. Since the start of the crisis, total government debt of EU countries has grown rapidly and at the end of 2012 it reached approximately 85 percent  of GDP. In order to repay the debt in Euro-zone countries, the public sector should stop paying for anything to anyone (instead spend all the revenue to repay the debt) for more than two years. The poor EU countries’ public finance situation and high indebtedness are both damaging the stability of the euro. It‘s because a high government debt translates into a higher tax burden on the present and future taxpayers, or it is indirectly compensated via commercial banks by ECB‘s money. As a result, inflation is increased and the credibility of the euro reduced.

None of the three conditions exposes a good situation. Either the value of responsible monetary policy has not been understood, or the objective of currency reliability is put into the shade of promotion through cheap money policy. Public finance is tackled not only at the national, but also at the EU level, but the situation is recovering too slowly or not recovering at all. Tax and regulatory burden is not reduced, but increased instead, because its impact on economic growth and employment is often being seriously underestimated. Therefore, Lithuania should not be in a rush to introduce the euro currency as yet.