Lithuania’s finance minister to Poland: You must join eurozone

Rimantas Sadzius, Lithuania's finance minister, has a message for his Polish counterparts who are worried about joining the euro: “You have no reason to stay away. You must join.”

The atmosphere around the common currency is enormously positive in Lithuania, which started using the euro on January 1. That marks a stark contrast with Poland, where the topic has been essentially taboo ever since the start of the economic crisis and as a consequence public support for the euro has withered – a recent opinion poll finds 68% of Poles are opposed to joining the euro.

Unlike in Poland, the Lithuanians launched an effective public relations campaign several years ago. As a result, public support for the euro rose from only 25% in late 2012 to 60% at the end of last year.

However, the Lithuanian calculation on whether or not to join the euro differs significantly from the case in Poland, the Czech Republic and elsewhere in central Europe.

The largest difference is that unlike the Poles and Czechs, the Lithuanians (and before them the Latvians and Estonians) had not have an independent monetary policy despite having their own currency. Lithuania’s litas was pegged to the US dollar in 1994, just a year after it was reintroduced following the end of decades of Soviet occupation. In 2002 it was pegged to the euro at a rate of 3.4528 lits to the euro. That’s the rate at which the final exchange took place at the end of last year.

“This was really a technical question,” says Osvaldas Ciuksys, deputy director of the Lithuanian Confederation of Industry.

By joining the euro, Lithuania gets a voice, even if it is a tiny one, at the European Central Bank, something it did not have before. “We have a seat at the table, so now the situation is better,” says Vitas Vasiliauskas, governor of Lithuania’s central bank. “Before we were standing in the corridor.”

Lithuania and the other Baltic states hung on to their pegs through the economic crisis, despite widespread advice telling them that it made more sense to devalue the currency to regain competitiveness. Instead, they undertook dramatic austerity policies. Lithuania’s GDP growth crashed from 9.8% in 2007 to 2.9% in 2008 to a 14.7% contraction in 2009. Faced with collapsing banks and all but shut out of international lending markets, Lithuania avoided taking help from international institutions, being wary of the conditions which come attached to such aid. Instead, Lithuania borrowed at a rate of more than 10% and tightened the screws at home.

Salaries were cut more than 10% including in the private sector, some civil servants saw their pay cut by one third. Pensioners also saw slimmer benefit cheques. The right-wing government which brought in the cuts lost power in 2012, but Lithuania managed to keep its peg against the euro  and restored competitiveness. By 2012, GDP per capita was above the level in 2008.

In contrast, Poland allowed the zloty to lose value when the economic crisis hit, which buffered exporters and was one of the reasons that Poland was the only EU country not to fall into recession in 2009. The Czechs, who have a patchier record when it comes to maintaining growth, have been fierce about retaining their own monetary policy; there is even less enthusiasm for the euro in Prague than in Warsaw. About three quarters of Czechs oppose joining the euro.

The Lithuanians were also prompted to join by their neighbours. Estonia joined the Eurozone in 2011 and Latvia acceded in 2014. For the three small countries, adopting the euro also has symbolic weight, particularly in a time of growing worries about Russian intentions towards the region. The idea is that being a member of core European institutions increases the security of vulnerable countries.

“Joining the euro is a continuation of joining Nato and joining the European Union,” says Zygimantas Mauricas, chief Baltic economist for Nordea Bank.

The Lithuanian Central Bank estimates that there will be significant economic benefits from joining the euro. The bank calculated that from 2014 to 2022, Lithuania will gain from €120m-€460m in public debt management cost reduction, €460m-€670m in interest rate savings for businesses and households, €550m in foreign exchange cost reductions, and €9.9bn in a gradual increase in exports thanks to being in the Eurozone. In all, that adds up to benefits of as much as €1.2bn over the next eight years – a significant number on an economy currently worth around €14bn. The costs of joining, including the advertising campaign and Lithuania’s contribution to the European Stability Mechanism, comes to about €593m over the same period.

If the bank’s optimistic projections on export growth do happen, that would provide a useful buffer against the rising cost of Russia’s aggression against Ukraine, which has had an impact on Lithuania’s economic relationship with Russia.

Mr Mauricas says that exports to Russia fell by about 10% last year and the expectation is that this year exports will decline by about a quarter. Lithuania’s main exports to Russia are largely milk and other agricultural products. Transporting goods to Russia is also important, and some shipping companies have already started laying off workers. In all, Mr Sadzius estimates that tit-for-tat sanctions against Russia will cut about 0.7% off Lithuania’s GDP this year, with another 1% being lost due to Russia’s recession, likely to come in at about 3% of GDP this year.

But Mr Mauricas estimates that those effects will be more or less balanced out thanks to price deflation, especially in imported fuels, as well the European Central Bank’s new policy of quantitative easing. He calculates that Lithuania’s economy will grow by about 3% this year and by a similar amount in 2016.

While there is optimism over the gains to be made from joining the euro, the greatest public fear had been over price increases due to the currency change. But in a period of deflation, and with a strict government programme of monitoring prices, the uptick was barely noticeable.

A greater potential problem comes from the Greek rescue programme. Poorer Eurozone members, including the Baltics and Slovakia, are not very keen on sending money to bail out the Greeks, who despite their long-running and very deep economic crisis still have a significantly higher standard of living. Mr Sadzius points out that while Greece has more or less the same GDP per capita at purchasing power parity as Lithuania – about $25,500 – average Greek salaries are twice as high and Greek pensions are three times as generous as those in Lithuania.

“There can’t be any miracle there,” he says, adding that the Greek government will have to impose politically painful cuts. “Fiscal discipline is a precondition for growth.”

Now that Lithuania is finally in the eurozone (it was narrowly blocked from joining in 2006 due to a slightly too high rate of inflation) countries like Poland should take a closer look at the benefits of membership, says Mr Sadzius. He warns that the growing consolidation of the eurozone creates the danger of a “two speed Europe” which could leave laggards like Poland behind.

“The Eurozone does not wait for newcomers with open arms”, he says.

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