Emerging euro-scepticism

By bne IntelliNews May 16, 2011

Nicholas Watson in Prague -

There is a growing consensus among Central and Southeast Europeans that keeping sovereign currencies, rather than adopting the euro, offers the best route to prosperity for Emerging Europe.

The latest evidence that the lengthening list of Eurozone countries requiring a bailout and the muddled response from European governments to the crisis is having a deleterious effect on support for the euro in the region came on May 11 in a poll taken by the Warsaw School of Economics, which showed for the first time in many years more Poles were against the adoption of the euro than for it.

In the latest poll, 41.7% of respondents were against adopting the euro, an increase of 3.3% on last year, while the number of the euro's supporters has dropped from 42.2% to 40.8%. "For the first time in a long while we have observed a higher number of sceptics than supporters of the euro," says Piotr Bialowolski from the Warsaw School of Economics, which has been following the Polish public's mood on euro entry since 2006.

Public opposition to adopting the euro is even more marked in the Czech Republic, where fully 80% of respondents to a SANEP poll published in April said they were against adopting the euro, with support for the single currency at less than one in five people.

Speaking out

The region's policymakers too are becoming noticeably more strident in their criticism of the euro's flaws and outspoken in support of staying out.

Mojmir Hampl, vice-governor of the Czech National Bank, rubbished the supposed virtues of the euro at a conference in Vienna hosted by Erste Bank in April. "A typical journalist phrase in the past was: 'the country is safely within the Eutozone'. Well, exactly the opposite is true," he said. "There is a convergence trilemma: a country which is catching up can never have growth, low imbalances and fixed exchange rates at the same time. For converging countries it's not wise to hurry into the Eurozone, because the project was not designed for poorer economies aiming to catch up."

This is an argument picked up by Capital Economics in a May report entitled, "Does Emerging Europe need the euro?". In it, the consultancy notes that that while there is no clear-cut answer as to whether a country should fix its currency or not, "the fact that those economies in Emerging Europe with flexible exchange rates experienced a more moderate drop in output during the crisis - and a quicker recovery subsequently - suggests that flexible exchange rates offer the most secure route to future prosperity for the region."

So while there are clearly some benefits to fixing exchange rates - currency volatility is eliminated and transaction costs are reduced, and small developing nations may benefit from lower borrowing costs - Capital Economics argues the size of these benefits are overstated, "particularly now that the region has progressed from the very early stages of transition to a market economy."

The conclusion that irrevocably fixing exchange rates is not in the region's best interests is reinforced by the theory of "Optimum Currency Areas", Capital Economics says. This theory states that monetary union is likely to be appropriate if member states: a) accept free movement of capital and labour; b) are similar in structure; c) have flexible labour and product markets and d) fully co-ordinate their fiscal policies. But "most economies within Emerging Europe fail all but the first of these criteria (the Baltic States are the exception by virtue of their greater flexibility)," it says. "Structural convergence has much farther to run, the region's labour markets are still too rigid and fiscal co-ordination is, for the most part, a non-starter."

Hampl has also attacked the ideas the founding fathers used as the reason for creating the euro. One of these was that the euro would make the various economies more alike. In reality, the economies have not only remained different, but these discrepancies grew - a trend that was accentuated by the global crisis. Another idea was that the euro would force those Eurozone members to push on with structural reforms. However, he says the euro actually made it easier for countries to "borrow like a thrifty German and spend like a profligate Greek."

Eva Zamrazilova, another member of board of the Czech central bank, also picks up on this theme of structural reforms, though is ultimately less hostile to the euro than Hampl. Before the Czech Republic can join the euro, she insists that it needs tackle head on the consolidation of public finances and change the whole architecture of country's public spending to deal with the demographic challenge of an aging population. "Countries need to sustainably meet the Maastricht criteria [on debt, budget deficits and inflation], not just for two or three or 10 years," she tells bne. "When that is finished, I don't say 'no'."

Default days

Experts say the popularity of the euro in Emerging Europe is only likely to get worse before it gets any better.

With Eurozone finance ministers scheduled to meet in Brussels on May 16 to thrash out a new plan to help Greece deal with its crushing debt burden and prevent the region's first sovereign debt restructuring, few think such a default can now be avoided. According to a Bloomberg poll in May, some 85% of international investors surveyed said Greece would probably default, with smaller majorities predicting Portugal and Ireland will do the same.

Such a scenario would have a big knock-on effect on Emerging Europe, even those outside the euro, since western banks hold much of Greece's debt and losses on this would inevitably curb lending and investment to the region, which has driven the recovery in the stock, bond and currency markets there. According to research from Bloomberg, the Hungarian forint is the top performing currency in 2011, rising 16.3%, followed by the Czech koruna up 15.5%, the Russian ruble up 12.0%, and the Polish zloty up 11.2%. The Polish stock market has risen about 25% over the past year.

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